IC Energy Report Web PDF

SMART POWER
National Infrastructure Commission report | Smart Power
CHAIR’S FOREWORD
From the morning commute and how we work, to heating
our homes and keeping in touch with our friends and family,
the quality of our infrastructure is absolutely fundamental to
our quality of life.
We all share an interest in better decision making, clearer

planning, and more efficient and timely delivery of modern
infrastructure.
The National Infrastructure Commission seeks to provide clear thinking, dispassionate

analysis and impartial advice to help drive forward vital infrastructure improvements.
The National Infrastructure Commission has begun with studies into the UK’s electricity
sector, connecting the great cities of the North and London’s transport system. Smart
Power is the first of these reports.
Electricity generation is undergoing fundamental change. Many existing fossil fuel

power stations will be decommissioned in the coming 15 years and new sources of
generation are coming on stream.
This report does not attempt to address all of the challenges facing our energy sector,
but focuses on the benefits we can achieve through building a more flexible electricity
system and the steps that will get us there.
Three innovations will help us deliver this – interconnection, storage, and demand
flexibility – which have the potential to displace part of the need for new generating
capacity, to save money for businesses and domestic consumers and help the UK meet
its climate reduction targets. The saving could be as large as £8 billion a year by 2030.
Together, these three infrastructure innovations have the potential to create a leaner,
more efficient electricity system at the cutting edge of global technology. This report
makes practical recommendations to this end.
Andrew Adonis,
Interim Chair of the National Infrastructure Commission
1
CONTENTS
Smart Power: In brief 4

Executive Summary 7
1: All change 15
2: Smart Power Revolution 26
3: Maximising the benefits of a more flexible market 60
Glossary 73
The National Infrastructure Commission 79
3
SMART POWER: IN BRIEF

Our energy sector is changing fundamentally. Two-thirds of our existing power stations are expected
to close by 2030 as our coal, nuclear, and oldest gas fired power stations reach the end of their lives.
This report makes recommendations to help ensure that our electricity system is fit for the future.
The Commission’s central finding is that Smart Power – principally built around three innovations,
Interconnection, Storage, and Demand Flexibility – could save consumers up to £8 billion a year by
2030, help the UK meet its 2050 carbon targets, and secure the UK’s energy supply for generations.
PART 1: ALL CHANGE

Our existing infrastructure was designed for a post-war world where homes and businesses were
supplied almost exclusively from large fossil fuel generators.
As we modernise and decarbonise our energy system we need to find new ways to manage the
network in the most efficient way possible.
This represents a serious challenge and an enormous opportunity. If we get this right, it will provide the
efficient, flexible and secure energy infrastructure our country will need to thrive. DECC and Ofgem
have already made a start.
PART 2: SMART POWER

In the coming decades the UK is uniquely placed to benefit from three innovations which could help
fire a smart power revolution.
Interconnection – connecting our electricity network to our continental neighbours is already
bringing down bills and helping to balance the system. More connections to cheap, green power
supplies, such as Norway and Iceland could bring great benefits to the UK. Government should
redouble its efforts to open new connections.
Storage – technology is accelerating at a remarkable speed. The UK could become a world leader
in making use of these technologies, not through subsidies, but by ensuring that better regulation
creates a level playing field between generation and storage.
Demand flexibility – A new generation of hi-tech systems means consumers can save money and cut
emissions without inconvenience. Government should ensure the UK benefits by improving regulation,
informing the public of its benefits and piloting schemes on its own estate.
PART 3: MAXIMISING THE BENEFITS OF A MORE FLEXIBLE MARKET

For the smart power revolution to realise its full potential we must ensure that our networks and
systems keep up.
This requires more active management of our local electricity networks, a national system operator able
to keep up with an increasingly complex system, and a strategic approach to upgrading our network.
The UK is uniquely placed to lead the world in a smart power revolution. Failing to take advantage
would be an expensive mistake.
4
SMART POWER AT A GLANCE
2/3
Around two-thirds of our existing power
stations are expected to close down by 2030
as our coal, nuclear, and oldest gas fired
power stations reach the end of their lives.
Our system must be modernised and The system must be balanced on a

decarbonised. To meet the UK’s legally second by second basis, but nuclear
binding climate change goal – to cut and renewable energy cannot be
CO2 emissions by 80% by 2050 – power ramped up and down as we currently
stations must be largely decarbonised. do with fossil fuel plants.
Climate Change Target
= Cut C02 emmissions
by 80%
by 2050
Interconnection
connecting our network to
our European neighbours.
The UK is uniquely placed to
lead the world in a Smart Power
Storage Revolution. If we get this right
Allowing users to take we could save consumers up to
£8bn
energy from the grid to be
used when it is needed
Flexible Demand
Allowing consumers to
choose how and when they
use power to cut costs
a year
and emissions without
inconvenience.
5
TRADITIONAL POWER SYSTEM

GENERATION TRANSMISSION
Power Station Power Transformer Transmission substation
DISTRIBUTION
COMMERCIAL
Distribution
& INDUSTRIAL substation
BUSINESS CONSUMERS
DISTRIBUTION
AUTOMATION
RESIDENTIAL CONSUMERS DEVICES
FUTURE POWER SYSTEM

Solar PV power plant
Storage Solar PV
Wind power plant
GENERATION power plant
TRANSMISSION
Power Station Power Transformer Transmission substation
DISTRIBUTION
COMMERCIAL
& INDUSTRIAL
BUSINESS Distribution
substation
CONSUMERS
Solar PV DISTRIBUTION
power plant AUTOMATION Storage
DEVICES
Storage RESIDENTIAL CONSUMERS
Wind power plant
6
EXECUTIVE SUMMARY –
SMART POWER
The National Infrastructure Commission (NIC) was asked
to consider how infrastructure and policies to promote
interconnection, storage and demand flexibility could
create a more efficient and cheaper electricity system. The
Commission has engaged with a range of stakeholders across
industry, government and civil society, and received more
than 130 formal submissions to its Call for Evidence.
The Commission’s central finding is that Smart Power – principally built around
three innovations, Interconnection, Storage, and Demand Flexibility – could
save consumers up to £8 billion a year by 2030, help the UK meet its 2050 carbon
targets, and secure the UK’s energy supply for generations.
PART ONE: ALL CHANGE

Around two-thirds of our existing power stations are expected to close down by 2030
as our coal, nuclear, and oldest gas fired power stations reach the end of their lives.
To meet the UK’s legally binding climate change goal – to cut C02 emissions by 80%
by 2050 – power stations must be largely decarbonised. Complete future reliance on
unabated industrial fossil fuel power stations is unsustainable.
There is a near term need to build new sources of power to ensure we have the
electricity we need. Over the next decade, new and more diverse sources of
electricity generation will need to come on stream, including more renewable
energy, new gas fired plants and new nuclear capacity.
Nuclear power is inflexible: nuclear plants are best run at a continuous rate -
delivering a stable base load of power rather than ramping up and down to match
demand. The shift to more low carbon technologies will also mean more smaller
power stations connected to the distribution network, for example onshore wind,
solar power, and combined heat and power plants.
Alongside a generational shift in our supply, demand for electricity is also likely to
change as new parts of our economy start to electrify such as heat and transport.
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But the underlying mechanics of the electricity system won’t change. Electricity
demand and supply must be balanced on a second by second basis in order to
maintain secure supply. If electricity supply is insufficient to meet demand or exceeds
it the system can become unstable, ultimately leading to blackouts. The network
needs to be resilient to unexpected events, such as a surge in demand or a power
station going offline without inconveniencing consumers. In order for the network
to continue operating efficiently, future requirements will demand a smarter way of
controlling generating capacity and demand in the UK.
This will come partly from increased interconnection to overseas energy suppliers,
significantly increased storage and more efficient flexibility of demand. The NIC
has examined the potential of these innovations, and we believe them to be hugely
significant to future policy and infrastructure.
PART TWO: SMART POWER

In the coming decades three innovations will help fire a smart power revolution.
The UK is uniquely placed to benefit from each of them.
Interconnection
Interconnection is the physical linking of electricity markets across borders

which allows the trading of electricity. It allows the UK to connect our network
to those of our neighbours.
Great Britain has historically had low levels of interconnection relative to other
countries, due to the distance to other countries and the need to lay subsea cables.
Interconnectors offer a number of benefits to the UK and are a key source
of flexibility to the electricity system. They are one of the few existing
technologies that can shift large volumes of electricity from where it isn’t
needed to where it is. By doing this they have the potential to lower prices for
consumers, improve the investment case for power stations, help us meet our
carbon targets at a lower cost and improve security of supply.
Interconnectors can be thought of as both additional generation capacity and
power exporters. This is because they allow electricity to be imported at times
of peak demand but are also able to sell electricity abroad when we have more
than we need.
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A better connected network

Great Britain currently has 4 GW of interconnection capacity,
around 5% of total generation capacity, through four Great Britain
interconnectors - two to the island of Ireland, one to France and currently has 4GW
one to the Netherlands. The existing ‘cap and floor’ regulatory of interconnection
regime has started to bring forward a healthy pipeline of capacity, around
interconnection projects that will deliver significant benefits to UK 5% of total generation.
consumers. By the early 2020s we expect to have around 11.3 GW
of capacity with new connections to France, Norway, Denmark,
Ireland and Belgium, and other projects are in train.
The role of interconnectors will evolve over time and will be
determined by factors such as the precise makeup of the UK’s
generation mix and the markets we interconnect with.
Progress so far has been good but there is potential for more.
Recommendation 1: Government should pursue additional
interconnectors with other European countries where the
benefits are most significant.
Interconnection investment decisions should continue to
sit primarily with the private sector but there is a role for
government-led diplomacy to unlock those markets that
can offer potentially large benefits to UK consumers. The
government should therefore focus its efforts on exploring
increased interconnection to markets with abundant sources of
flexible low carbon electricity, such as Norway and Iceland.
Storage
Storage allows consumers and suppliers to take energy and store it so that it
can be used when it is most needed.
Electricity prices vary throughout the day, and across the year. When demand
is higher, prices rise. Storage technology allows consumers to buy electricity
when it is cheap and use it later when it is needed.
There are a number of ways electricity can be stored. Today, our main source
of storage is through pumped hydro – simply converting electric energy
into potential energy and back by moving water up and down a hill. There is,
however, an increasing range of alternative ways to store energy including;
chemical batteries, compressed air and supercapacitors.
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Huge technological advances, tremendous potential,

no subsidies required The cost of lithium ion
batteries has decreased
Electricity has historically been difficult and expensive to store. from more than
However, over the last decade there has been a great deal of
innovation in electricity storage technologies driven mostly by
$3,000/kWh
consumer electronics like mobile phones and investment in in 1990
electric vehicles. to less than
This rapidly evolving environment has driven innovation and $200/kWh
reduced costs. For example, the cost of lithium ion batteries has
decreased from more than $3,000/kWh in 1990 to less than $200/
today
kWh today.
These technologies are now on the verge of being able to compete
with power stations for some of the services they provide.
Crucially, storage technology will not need subsidies

to be attractive to investors – businesses are already
queuing up to invest.
Regulation, on the other hand, does require attention. When our
electricity markets were designed these technologies did not exist.
The result is a market that is opaque, and operated in a way that
unintentionally disadvantages storage providers; preventing them
from participating across the various electricity markets.
For example, storage assets face ‘double charging’ for the various
government levies that are added to electricity costs. These taxes are
placed on the electricity used to charge up the store and again when
the electricity is exported.
Even if storage could undercut generators, providers currently struggle
to get finance because the lack of transparency in the market makes it
difficult to put together a compelling business case.
The result is that barriers to the market are hindering

a technology that could bring down bills, prevent the
need for additional power stations and help secure the
power mix that could ensure we hit our legally binding
climate change targets.
Not only can storage can help reduce the impact of peak demand
and provide demand for power stations at other times of day, it also
has the potential to ease constraints on our grids.
Like a river with an off flow to a reservoir, storage can allow the
network to siphon off electricity rather than being forced to curtail
generation – for example putting an end to paying wind farms not
to produce electricity, which currently costs £90 million a year.
10
Wind farms were paid
£90m
not to produce
electricity in 2015
Network owners are only just starting to make use of these technologies, but there
is now enormous potential to make storage technologies an integral part of our
networks, rather than building more power stations just to meet peak demand, or
laying expensive cables.
Recommendation 2: The UK should become a world leader in electricity storage
systems. Two steps are required:
a) DECC and Ofgem should review the regulatory and legal status of storage and
remove outdated barriers to enable storage to compete fairly with generation
across the various interlinked electricity markets. The reforms should be
proposed by Spring 2017 and implemented as soon as possible thereafter.
b) Network owners should be incentivised by Ofgem to use storage (and other
sources of flexibility) to improve the capacity and resilience of their networks
as part of a more actively managed system.
Demand Flexibility
Demand flexibility covers a broad range of activities that can be undertaken to

reduce or shift demand for electricity during peak periods, including adjusting
the consumption of electrical appliances or other facilities or deploying off-
grid sources of power.
Demand flexibility can allow families and businesses to change how they use
electricity. Deploying automated systems to reduce consumption at times of
high demand and increase it at times of low demand, will allow consumers can
save money and cut emissions without inconvenience.
In addition, demand flexibility can support the integration of low carbon
generation such as wind, solar or nuclear. Flexibility in how we consume
energy lowers the need for flexibility in supply.
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Heading towards a more flexible future

Demand flexibility is commonplace in other countries such as
Australia and the US, where it enables them to meet up to 15% of
the peak demand for electricity. But demand flexibility is currently
underused in the UK, fuelled by an apparent and widespread failure
to properly communicate the benefits it provides.
Providers of demand flexibility have stated that they are unable to
access the UK’s electricity markets on equal terms with generators, Demand flexibility is
including the capacity market. The long term goal for the capacity commonplace in other
market must be to ensure a level playing field for the diverse countries, such as
technologies that can participate. In the short term, there are a Australia and the US,
number of small changes that should be made as soon as possible where it enables them
which will make it easier for demand side solutions to participate. to meet up to 15% of
Some of the best British businesses are already making use of the peak demand for
demand flexibility, but there is potential for much wider take up. electricity.
With the roll out of smart meters in every home in the 2020s,
the domestic market for demand flexibility could be significant.
Without tackling regulatory and cultural barriers, however, it is
unlikely that the potential benefits will be achieved.
There is an opportunity here for UK firms. We are a world leader in
the data analytics and software development that can be used to
manage energy demand seamlessly: showing what can be achieved
will enable these capabilities to be marketed to the world.
Recommendation 3: The UK should make full use of demand
flexibility by improving regulation, informing the public of its
benefits it can provide and piloting business models.
a) Ofgem should start an immediate review of the regulations
and commercial arrangements surrounding demand flexibility
with a focus on making participation easier and clarifying the
role of aggregators; this should be complete by Spring 2017.
b) DECC should make future changes to the capacity market to
reduce the costs and barriers to entry for demand flexibility.
c) DECC, Ofgem and National Grid should ensure that large
users and opinion formers are aware of the money saving
opportunities that demand flexibility can offer and encourage
more industrial and commercial consumers to take part.
d) Pilots focusing on business models which make demand
flexibility easy and attractive to consumers should be
established and fully evaluated. Government should
demonstrate best practice by investigating the scope for
demand flexibility on its estate. demand flexibility on its
estate.
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PART THREE: MAXIMISING THE BENEFITS

OF A MORE FLEXIBLE MARKET
The UK requires a national system operator able to keep up with an increasingly
complex system, more active management of our local networks and a strategic
approach to upgrading our network.
National Grid, a privately owned company, is the System Operator for the
electricity system in Great Britain. It is responsible for balancing the supply of
electricity with demand at the national level, for example by ensuring power
stations are on standby in case of a sudden increase in demand and ensuring
that the network operates safely, securely and efficiently.
Distribution network owners - a number of privately owned companies -
own the lower voltage, local electricity network which is used to deliver
electricity to consumers. Some smaller power stations (e.g. a small wind
farm or domestic solar panels) are connected to the distribution network,
whereas larger power stations connect to the national transmission network.
Distribution network owners are responsible for connecting new sources of
demand to their networks and carrying out reinforcement investments but do
not have a responsibility for managing supply and demand on their networks.
A smarter system operator

Whilst we recognise that there is the potential for a conflict of interest between the
roles National Grid carry out, and a case for greater independence, the Commission
has found no evidence that the System Operator has acted in a way which has
negatively affected consumers. Fundamental change in the immediate term risks
delaying action over the more important task of making our networks better run
and more efficient. However, it is important for the system operator to be more
independent, and National Grid should work to achieve this.
As the system evolves, with more and smaller power stations that are less flexible,
increased deployment of storage, greater interconnection, and increased usage of
demand flexibility, the role of the System Operator will become significantly more
complex. National Grid should therefore be encouraged to invest in the necessary
digital infrastructure and capability to optimise the system.
Recommendation 4: The System Operator must create new markets that will allow
open competition for the services it procures and ensure it keeps pace with the
network it oversees.
a) The creation of an entirely independent System Operator should not be
treated as an immediate priority but should be kept under review in light of
progress towards strengthening National Grid’s independence.
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b) Ofgem should consider how it encourages the System Operator to develop

new markets to provide ancillary services which allow new technologies to
participate more easily. The long term goal must be for a more strategic and
transparent approach to the procurement of ancillary services and more cost-
reflective charging.
More active management of our local networks

Most of the potential for storage and demand flexibility will be embedded in local
networks.
Those networks have traditionally been used to transport power from the
transmission network to consumers and they do this job efficiently.
However, in future, instead of simply transporting power from the transmission
network to consumers it is almost inevitable that distribution network owners will
be managing small directly connected generators, such as solar and wind, as well as
batteries and sources of demand flexibility, with power increasingly flowing in both
directions through their systems. This is already starting to happen.
To meet these new challenges as efficiently as possible local networks will require
more active management, alongside closer coordination with the national network.
Doing this will help support local sources of generation and demand to balance the
national system.
Recommendation 5: Enabling the transition to more actively managed local
networks should be a government priority. By Spring 2017 DECC and Ofgem
should consult and set out how and under what timeframe this transition should
best take place.
A strategic approach to upgrading our networks

Ofgem have recently started to incentivise greater innovation and new ways of delivering
resilient electricity networks. The implementation of the new RIIO price control
framework (Revenue=Incentives+ Innovation+ Outputs (RIIO)) is an excellent first step.
But as the potential for new technologies increases more must be done.
For example, using storage and demand flexibility can save consumers money by
postponing or mitigating expensive upgrades and grid reinforcements. Future
planning frameworks must enable and incentivise the adoption of these solutions.
A strategic approach to upgrading our networks could deliver large savings to future
consumers at low risk to existing consumers at the local level.
Recommendation 6: Where upgrades to our networks are needed Ofgem should
continue its work in encouraging network companies to make long term strategic
decisions. Whilst this does increase the risk of stranded assets, the Commission
believes that if there is a potential net gain to future consumers then this approach
may be justified. If network owners are not best placed to manage this risk, they
should work with third parties to help facilitate these investments.
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PART 1: ALL CHANGE
15
1 ALL CHANGE
The way we use the electricity network is changing fundamentally
1.1 The UK’s electricity system will be transformed over the coming decades.
This is being driven by the need to decarbonise our power supplies,
our ageing power stations reaching the end of their lives and new
technologies changing the way households and businesses use and
generate electricity.
1.2 Increasingly our electricity networks, both the large-scale transmission
network that moves electricity from one region of the country to another
and the more local distribution networks that connect to our homes and
businesses, are moving away from linear ‘one-way’ flows of electricity
from power stations to passive consumers.
1.3 Instead we are moving to a system in which generation is distributed
more widely across the country and is more variable in its nature
and scale. Where technologies such as solar panels are blurring the
distinctions between suppliers and consumers of electricity, are able to
manage their demand for power more actively. Where new technologies
are emerging at an ever-increasing pace.
Generation mix today and possible future scenarios (installed capacity (GW))1
Today’s world 2014/15 Gone Green 2030/31
4.4 6.0 11.3

8.8 6.8
5.8
3.8
17.7 27.6
4.9
18.1
3.9
4.8
9.4
12.0 23.3
48.0
28.9
Consumer Power 2030/31 Nuclear

Coal
8.1 7.4 3.9
5.5 Gas
10.8 Wind
0.8
32.7 Solar
4.9
Other Renewable
Cabon Capture and Storage
29.1 Interconnectors
33.0 Conventional Other
Combined Heat and Power
16
1.4 The precise make-up of the electricity system will be driven by how
quickly the costs of technologies such as solar panels and storage fall, and
to what degree other parts of the economy such as heating and transport
turn to electricity. Taking all these factors into consideration, it is hard to
predict either the demand for electricity in the future or how it will most
efficiently be supplied.
Key participants in the GB electricity market

Generators: Generators own power stations, or other sources of power such as renewables,
which they use to generate electricity. Generators either sell their electricity into the wholesale
market or have contracts with electricity suppliers
Suppliers: Suppliers buy electricity from either the wholesale market or directly from generators
and then sell this to firms and households in the retail market.
Transmission Network Owners: Transmission network owners own the high voltage electricity
transmission network. This is used to move electricity long distances across the country. Large
power stations are connected to the transmission network. Electricity substations connect the
transmission network to the distribution network.
Distribution Network Owners: Distribution network owners own the lower voltage electricity
distribution network. This is used to deliver electricity to consumers. Some smaller power
stations (e.g. a small wind farm or domestic solar panels) are connected to the distribution
network and not the transmission network.
Aggregators: Aggregators offers services to aggregate energy demand or production from
different sources to act as one entity in providing services to the grid. This allows them to
achieve economies of scale in purchasing power or in managing demand.
The System Operator: National Grid is the System Operator for the electricity system in Great
Britain. It is responsible for balancing the supply of electricity with demand at the transmission
level and ensuring that the network operates safely, securely and efficiently.
1.5 With around two-thirds of existing power stations set to close by 2030,
there is a near term need to build new sources of power to ensure we
have the electricity we need.2
1.6 To begin with, while renewables will continue to grow as a proportion of
the generating mix, it is likely that gas will also need to play an increasing
role in our energy system. This is because new gas fired power stations
are deliverable to the timescales needed to ensure continuity of supply
over the coming decade, produce lower emissions than coal, and provide
a relatively flexible source of power which can respond to changes in
demand for electricity over the course of the day.
17
The age of the dominance of industrial fossil fuel power stations is

coming to an end
1.7 In the longer term, however, much more significant decarbonisation
of the power sector will be necessary. Whilst the precise rate of this
decarbonisation and whether it will be driven by carbon prices, government
subsidies or regulation is unknown, modelling by the Committee on Climate
Change shows that the power sector must be near zero carbon in 2050
if we are to meet our legislated emission reduction targets.3 This means
that we need ultimately to generate more of our power from low or zero
carbon sources of electricity, and whilst fossil fuels may still play a role, their
emissions will have to be dealt with through carbon capture and storage.
But the underlying needs of an electricity system remain constant

1.8 Despite the changes taking place in and around the system, electricity
demand and supply must continue to be balanced on a second by second
basis in order to maintain the secure electricity supplies our economy
relies on. If electricity supply is insufficient to meet demand, or exceeds
what is needed, the system can become unstable, ultimately leading to
blackouts.
1.9 Variations in demand are fairly predictable. Therefore, electricity
suppliers can work out in advance what they need to purchase from the
generators, using a mix of long term contracts and short term trades, to
balance out the majority of the changes in demand in different seasons of
the year or at different times of the day. This is the wholesale market.
1.10 Whilst the wholesale market is very effective at matching anticipated
demand with supply, it is unable to deal with the smaller and less
predictable differences that occur in real time. There can be any number
of reasons for an imbalance in demand and supply: for example a supplier
may have misjudged the demands that its customers will make on the
system at a given time or a power station may break down or otherwise
be unable to generate the amount of electricity it had anticipated. In
these cases the System Operator has the responsibility of bringing the
system back into balance, the so called ‘balancer of last resort’. It does
this by paying for power stations to ramp up or down their supply or
customers to change their level of demand in real time through the
balancing market.
The transition to low carbon generation presents challenges for

balancing supply and demand
1.11 Most lower carbon power sources have quite different characteristics to
fossil fuel plant, which limit their ability to manage the changing pattern
of demand for electricity at different times of the year and different
times of day.
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1.12 Coal and gas fired power stations are not dependent on external factors
such as the weather to enable them to generate power and can be
switched on and off comparatively quickly in response to changing
patterns of demand. For these reasons, the System Operator has
historically used them as its main tool for balancing the system in real
time, in combination with a small amount of extremely fast-starting hydro
power to manage the most sudden spikes in demand.
1.13 In contrast, renewable generation is intermittent, with wind farms only
able to generate when it is windy and solar power proportional to the
amount of sunlight. Nuclear power is best run delivering stable base load
power, rather than ramping up and down to meet demand, as the process
of turning a nuclear plant on or off is time-consuming and expensive.
1.14 Low carbon power stations are also relatively expensive to build but once
constructed are cheap to operate, with the opposite being true for most
fossil fuel plants.4 It would clearly be inefficient and unsustainable to deal
with the increased balancing challenge by constructing a large amount of
low carbon generating capacity that would only be needed for a few hours
of the day to meet peak demand, and more again to manage intermittency.
New generation is often smaller and dispersed

1.15 Renewable installations tend to be smaller and are therefore often
connected to the lower voltage distribution network. This has benefits
in bringing generating capacity close to the consumer and reducing the
demands on the transmission system (and the associated costs) but it also
creates a more complicated geographical spread of energy supply and
leads to new challenges in managing both local and national networks.
1.16 In particular, with increasing amounts of solar power in the system,
managing periods of low demand in the summer will be just as important
as managing the high demand we see in the winter, as we may experience
a surplus of electricity of in the middle of a sunny day.
We must maintain security of supply

1.17 We also need to ensure there is enough electricity in the system to meet
the needs of consumers at any given time. There is significant variation
in demand between morning and evening, week days and weekends, at
different times of year and even depending on events on television. The
United Kingdom generates around 340 TWh of electricity each year,5 with
daily demand peaking at around 55-60 GW, typically just for a few hours
on winter weekday evenings.6
1.18 As set out above, our electricity system has developed so that changes
in demand are primarily balanced by increasing and decreasing supply;
mostly from fossil fuel based sources of power. This means that there
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needs to be enough generation capacity to ensure this peak can be met

when it occurs, with enough margin to ensure that there are sufficient
supplies if some power stations are unavailable. This approach, whilst
effective, results in our power stations being used at around 55% of their
available capacity on average.7
1.19 With peak demand only occurring for a few hours each year, however, this
means that a significant amount of generating capacity is required which
may be rarely called upon. Since the costs to consumers of providing such
capacity on a commercial basis would be expected to be extremely high,
the government has established the capacity market through which it
pays directly for capacity to be available at times of peak demand.
1.20 If as we transition more fully to low carbon sources of power, we continue
to meet peak demand purely through increasing our supply rather than
considering other approaches, the costs to consumers or taxpayers of
building the necessary power stations and upgrading our networks will be
higher still and increasingly hard to justify.
Great Britain electricity demand on a typical week day8

60
50
40
Demand (GW)
30
20
10 Winter
Summer
0
6 am Noon 6 pm
20
Demand for electricity is likely to change

1.21 Our demand for electricity is also likely to change through the rollout of
electric vehicles, the decarbonisation of our heat supply, the introduction
of smart technologies, and increased energy efficiency. This could lead
to radical shifts in our patterns of electricity consumption. The need for
electricity at peak times of the day could double, whilst the total amount
of energy we use will only slightly increase.9
Possible future daily demand scenario with sub-optimal power system10
120 117 GW
100
Demand (GW)
80
60
40
Electric vehicle demand
Heat Pump demand
20 Original demand
0
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The network needs to be resilient to unexpected events

1.22 Finally, the electricity system also needs to be flexible enough to meet very
rapid changes in demand and supply, for example due to a power station
suddenly failing. This is the second part of the System Operator’s role,
which it fulfils by ensuring there is sufficient inertia in the power system
to manage imbalances in the very short term (the first few minutes after a
shock to the system) and by having sources of power (typically fossil fuel
plants or hydro power stations) in reserve that can adjust their output
quickly over the slightly longer term. The mechanism through which the
System Operator procures these is known as the ancillary services market.
21
How the GB electricity system returns to balance after a sudden loss of supply11
50.200
50.100
50 Hz frequency target
50.000
49.900
Frequency (Hz)
Inertia
49.800
Reserves
49.700
Frequency response
49.600
49.500
01:19:14
00:58:00
00:59:38
01:00:27
01:01:16
01:02:05
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01:24:57
01:25:46
01:26:35
01:27:24
00:58:49
1.23 As we switch to a more intermittent and less flexible low carbon

generation mix, demand for these services is expected to multiply by up
to ten times.12 Continuing to use fossil fuelled power stations to provide
the majority of these services which keep our system stable would require
them to run part-loaded. This would be expensive, inefficient and limit the
amount of low carbon power that the system can absorb.13
1.24 Procuring flexibility from other sources across the electricity markets
would mean that the UK could build fewer new power stations, integrate
more low carbon electricity at a lower cost and use all the assets in the
electricity system more efficiently, leading to significant cost savings for
consumers.
22
Different parts of the GB electricity market

The wholesale market is where 95% of electricity trades take place, up to ‘Gate Closure’ (one hour
ahead of delivery).14 It is where the majority of government intervention to support low carbon
generation takes place – with power stations’ revenues being ‘topped-up’ through the Contract
for Difference or Renewables Obligation regimes on the basis of the output they sell into the
wholesale market.
The balancing market operates from ‘Gate Closure’ through to real time and exists to ensure that
supply and demand can be continuously matched. Participants submit ‘offers’ and/or ‘bids’, which
represent the price the System Operator pays them to vary their generation or demand over that
period. These costs are then passed on to those who were out of balance.
The System Operator also procures a number of ancillary services to help it manage the electricity
system in case of unexpected shocks, such as the failure of a power system. Providers need to be
able to meet a number of technical specifications around how quickly they can supply power and
over what time period.
The capacity market was created to make sure that Great Britain has enough reliable sources of
electricity in the wholesale and balancing markets at periods of peak demand. Participants are
given a steady payment, even when they are not generating power, in return for being available to
generate or reduce demand when needed.
1.25 The increasing costs associated with balancing the electricity system
are not only related to generation capacity. They are also driven by
the need for increased network capacity to move electricity efficiently
around the country from power stations to consumers. In the same way
that the amount of generation capacity we have is scaled to meet peak
demand, the size of electricity network (in terms of the number and
capacity of the cables) is also designed to meet the short periods of time
when consumption and generation are at their highest. If the status quo
continues, network reinforcements at the distribution level alone could
cost up to £30bn from now to 2030.15
The long term challenge this represents is immense, but it also

presents us with an enormous opportunity
1.26 The dual challenge of ensuring that we continue to have enough power
at times of high demand and meeting our carbon targets will require
a huge amount of investment in infrastructure, not only in the power
stations and renewable sources of power that generate electricity but also
in the transmission and distribution networks that deliver it to industry,
businesses and homes.
23
1.27 If we get this right, we have the opportunity to significantly reduce

the amount we need to build, and therefore the cost of this transition,
by placing new and alternative sources of flexibility at the heart of our
electricity system and making efficient use of our assets.
The technologies are becoming available to allow us to meet these

challenges
1.28 Flexibility can come from a selection of existing and emerging technologies.
There is a large amount of untapped potential which could revolutionise the
way we view and operate our system and result in lower costs. We need to
ensure we unlock it, rather than replicating a system that was designed for
a different age.
1.29 The benefits of creating a more flexible system are high, driven by avoided
investment in expensive new generation whilst still decarbonising our
system. Analysis carried out for the Commission suggests they range
between £2.9bn and £8.1bn per year in 2030.16 Even in scenarios where
the UK does not meet its climate change objectives, increasing flexibility
results in large savings. These results are based on the use of technologies
which either exist today or are likely to be available by 2030.17
Analysis carried out for the Commission suggests

savings to the consumer range between
£2.9bn and £8.1bn

per year in 2030
24
What can provide flexibility?

Flexibility in the electricity system is about generators and consumers
changing their behaviours in response to signals (such as a change in price, or
an electronic message) helping the whole system work more effectively.
ll Demand flexibility enables consumers to manage how and when they
use electricity. By responding to changing prices throughout the day
(i.e. lower prices when electricity is abundant, higher prices at times of
peak demand) the peak demands on the system can be reduced. New
technologies are enabling this be done with no compromise in the quality
of service consumers receive or any reduction in businesses’ output.
ll Storage comes in a variety of forms and can fulfil multiple functions.
For example, it can make the electricity system more robust to sudden
changes, such as a power station failing, reduce the need to expensive
upgrades to the electricity network and help integrate intermittent
renewables such as wind and solar.
ll Interconnection links the GB electricity market with those of other
countries. This allows imports of power at times of peak demand, as well
as the opportunity to export when electricity is abundant.
ll Flexible generation, which is able to increase and decrease its output
quickly and easily, can help meet changes in supply as the power from
less controllable power stations (such as intermittent renewables) varies.
ll New network technologies such as digital communications which can
make our networks smarter and able to react to changes in real time.
1.30 In all scenarios, increasing the flexibility of the system is a low-regrets

option and makes it easier for the UK to achieve its carbon targets at
a lower cost. The key to achieving this will be to ensure that both our
infrastructure and our regulatory frameworks are able to accommodate
new sources of flexibility and enable them to secure a financial return for
the services they provide to the system.
1.31 Many countries around the world are facing a similar set of challenges to
the UK. However given the amount of capacity that is set to close over the
next few years, the UK is uniquely placed to be a world leader in deploying
innovative solutions to tackle them. The remainder of this report sets out
how to make this happen.
1.32 The Commission’s central finding is that Smart Power – principally
built around three innovations, Interconnection, Storage, and Demand
Flexibility – could save consumers up to £8 billion a year by 2030,
help the UK meet its 2050 carbon targets, and secure the UK’s energy
supply for generations.
25
PART TWO: A SMART

POWER REVOLUTION
26
2 A SMART POWER REVOLUTION

2.1 In the coming decades three exciting new technologies will continue
to develop, which could play an important role in reducing the costs of
balancing the energy system as we transition to lower-carbon sources of
power. These are:
ll Interconnection
ll Storage
ll Demand flexibility
2.2 The transformation that will be needed in how the UK generates
electricity in the future means that the UK is uniquely placed to put
these at the heart of its energy system – lowering emissions, improving
efficiency and reducing bills.
Interconnection
Interconnection to overseas markets has an important role to play in any
future electricity mix. The existing ‘cap and floor’ regulatory regime has started
to bring forward a healthy pipeline of interconnection projects that will deliver
significant benefits to British consumers.
However, there is the potential to do more and greater levels of
interconnection could be of benefit. The level of benefit will depend on factors
such as the amount of renewable capacity in the UK, the deployment of other
sources of flexibility (such as storage) and how other European markets evolve.
We need to make sure that the UK’s regulatory framework facilitates
investment in greater capacity and encourages interconnectors to offer other
flexibility services to the electricity market.
The role of interconnectors will evolve over time, driven by the precise
makeup of the markets in the UK and abroad. Over the longer term, there is
the potential for interconnectors to allow Great Britain to access low cost, low
carbon power as well as the ability to export our renewable electricity at times
when weather conditions drive high levels of generation.
27
2.3 Interconnection is the physical linking of electricity transmission systems

across borders to allow the cross-border trading of electricity. As an island
nation, the need to lay long subsea cables has meant Great Britain has
historically had low levels of interconnection relative to other countries.
It currently has 4 GW of interconnection capacity (around 5% of total
generation) through four interconnectors – two to the island of Ireland,
one to France and one to the Netherlands.18
The technical characteristics of interconnectors

Interconnectors are large transmission cables, often made predominantly of
copper, which allow electricity from one country to flow to another. The flow
of electricity is dictated by the price, with power flowing to the market which
offers the best return. Interconnectors are generally considered to have a
lifespan of around 40 years.
As with any large transmission network, interconnectors do suffer from certain
losses. These have been calculated to be around 1.5% loss due to conversion
and a transmission loss of 0.9% per 100km.19
The capital costs of interconnection depend primarily on its capacity and
the length of the cable. As an indication, two projects have recently agreed
construction contracts:
ll NEMO, a 1 GW cable to Belgium (140 km), €500 million20
ll North Sea Link, a 1.4 GW cable to Norway (740 km), €1.5 billion21
2.4 Interconnectors offer a number of benefits to Great Britain (GB) and are
a key source of flexibility to the electricity system, with their ability to
shift large volumes of electricity from where it isn’t needed to where it
is. This gives them the potential to reduce wholesale electricity costs and
improve security of supply. They can also allow GB to access low carbon
electricity at a low cost.
2.5 Interconnectors can be thought of as both additional generation capacity
and power exporters. This is because they allow electricity to be imported
at times of peak demand but are also able to sell electricity abroad when
we have more than we need.
2.6 The former often reduces costs as power can be accessed to meet peaks
in demand without needing to build expensive generating capacity.
As set out below, different markets have peaks in demand and supply
at different times of the year and different times of day, so GB’s periods
of highest demand may often coincide with points when the supply of
electricity from other countries is plentiful and hence the costs are lower.
28
2.7 Being able to export electricity means that power stations in Great Britain
can continue to generate even when domestic demand is low, increasing
their profitability. This is particularly important for low carbon plant as
they tend to be less flexible when they generate.
2.8 These effects mean that interconnectors have the ability to reduce costs
and improve revenues in both of the connected countries. However, the
flows on an interconnector at any point in time are driven by the relative
prices in each market. Price differences between markets are driven by
several different factors:
ll Differing generation mixes and energy policies: Cost
differentials can arise through different types of power station
setting prices in different markets. For example, the GB market
remains dominated by fossil fuel plant, which therefore sets the
price for electricity. In some European countries, the price is
driven more by the cost of renewable energy, which will rise and
fall at different times from the GB price. Country-specific taxes
such as the Carbon Price Support (CPS) in the UK can also drive
price differences.
ll Different demand patterns: Different countries have peak
demand at different times of day. For example, the morning
peak in the Netherlands tends to be two hours earlier than in
Great Britain because of the time difference and the earlier start
to the Dutch working day. This means an interconnector can
export electricity from GB early in the day and import to meet
the GB’s peak.
ll Volatility in prices between countries: There can be
unpredictable differences in prices between markets, for
example due to power stations being unavailable. In future,
as technologies such as wind and solar generate a greater
proportion of our electricity, weather patterns will play an
increasing role in determining prices, increasing the level of
volatility. Interconnection between countries with different
weather systems can help to smooth out these effects.
29
2.9 There is a consensus that there has historically been

a sub-optimal level of interconnection between the If all projects go ahead
Great Britain and other markets, given the arbitrage as currently planned
opportunities that exist.i To address this, Ofgem then interconnection
recently introduced a ‘cap and floor’ mechanism capacity will increase
which has proven to be successful in driving significantly to more
investment. A number of interconnector projects are than 10% of GB capacity
being proposed by private investors, including links to by the early 2020s
Norway, Denmark and Belgium, as well as additional
connections to France and Ireland.
2.10 If all of these projects go ahead as currently planned
then interconnection capacity will increase significantly
to 11.3GW (more than 10% of GB capacity) by the early
2020s.22
Ofgem’s development of
the cap and floor regulatory
model has been successful in
helping to address barriers
to additional interconnector
investment – Energy UK23
i
This includes current interconnectors, projects which have received approval through Cap and Floor and those which have
a regulatory exemption.
30
Existing interconnectors and the future pipeline
IceLink
NorthConnect
NSN
Moyle
East-West Viking Link
BritNed
Greenlink
NEMO
IFA Eleclink
Existing project
Regulatory approval FAB Link

in principle
IFA2
Other proposed project
2.11 The Commission’s evidence suggests that this pipeline of interconnectors

will deliver significant net benefits to the UK. Analysis conducted
by National Grid identifies the expected net benefits of 8-9 GW of
interconnection to be equivalent to nearly £3m every day, from a
reduction in the wholesale price of electricity.24
2.12 However, it is important to note that interconnection can result in
winners and losers. Connecting to another market means that for some
parts of the day, at times of relatively low domestic demand the ability
to export energy increases the level of demand, meaning prices will be
higher than they would have otherwise been (a cost to consumers but a
benefit to generators). This is only occasionally an issue in Great Britain, as
its interconnectors are used much more to import than to export energy.
It is a more significant concern in countries expected to be net exporters
such as Norway.
2.13 The degree to which exporting electricity over an interconnector
changes wholesale prices depends on the specifics of the market and its
generation mix. In some markets the additional generation required may
come from more expensive generation, which would tend to increase
the wholesale price in the exporting market. Other countries may have
a surplus of relatively lower cost generation and the impact may be less
pronounced.
31
2.14 Conversely, at period of high demand, the ability to increase supply by

drawing upon other countries’ generating capacity will drive costs down.
While this may be of concern to the generation sector, and particularly
investors in fossil fuelled power stations (as it is in these periods of high
demand that they have typically been able to make the greatest profits), it
will benefit consumers by reducing the costs overall.
2.15 Interconnection can also improve security of supply by providing the
option of importing at times of stress when demand is likely to be highest
and by increasing diversity by offering capacity from an entire market
rather than a single power station.
2.16 However, some argue that additional interconnectors may reduce
security of supply. This reflects the concern that they may displace some
GB-based generation, but cannot be guaranteed to be available during
periods of greatest stress on the system (for example, due to stress
events happening simultaneously in both markets).
2.17 To deal with this, the capacity market ‘de-rates’ interconnectors when it
calculates the contribution that they can make to our security of supply. It
does this by applying a percentage reduction to the total capacity of the
interconnector. This de-rating factor reflects the probability that market
prices mean that the interconnector is importing to GB during a time of
system stress. In the 2015 capacity auction, the de-rating factors used
ranged between 6% and 69%, depending on the characteristics of the
market being connected to.25 The Commission believes that this adequately
mitigates any risks to security of supply interconnectors may present.
Accessing low cost, low carbon electricity

2.18 Linking European electricity markets through interconnection can also
enable low carbon sources of electricity, particularly renewable electricity,
to be deployed at a lower cost. It allows renewables projects to be sited
where they are best suited, for example offshore wind in the North Sea
and solar power in Southern Europe, with the electricity exported to
where it is most needed.
2.19 Recent analysis suggested that by locating renewables where they
would operate most efficiently it would be possible to achieve the
same overall level of renewable output using 15% less capacity and that
the benefits across Europe could exceed €200bn by 2030.26 In Great
Britain this approach could allow for the export of renewables in future
at times of surplus rather than the need to pay to curtail generation.
The same approach could be used to import low carbon power from
other countries where the costs of deployment are significantly lower
than those in GB. One example of where this approach is already being
considered is through interconnection to Iceland.
32
Connecting to Iceland
Iceland has abundant natural energy resources and has exploited these to
produce an almost entirely renewable electricity system. Their system is 71%
hydro-power and 29% geothermal.27 As these technologies have no fuel costs,
this has led to Iceland having one of the lowest costs of electricity in the world.
The benefits of connecting the GB and Icelandic electricity system would include:
ll Increased security of supply for both countries.
ll GB would benefit from reliable imports of potentially flexible low-carbon
generation.
ll Potential to reduce GB consumer bills if the cost is lower than
comparable alternative sources of electricity.
ll Iceland would benefit from a larger market allowing generators to invest
in new generation.
In light of these benefits, in November 2015, the Prime Ministers of both
countries agreed to set up a taskforce to consider the potential for this project.
Most interconnectors make their business case by exploiting the price differential
in two freely traded markets. By contrast, Iceland does not have a freely traded
market and electricity is sold through bilaterally negotiated, long-term contracts.
The Icelandic energy network is also very small compared to the GB system,
or any of the other systems in Scandinavia or mainland Europe, and there
is not sufficient surplus capacity to provide sufficient electricity for an
interconnector. Iceland currently has around 2.8GW of installed capacity and a
peak demand of around 2.5GW. There is the technical potential to significantly
increase the capacity of Icelandic electricity production which could produce
sufficient additional power to export, although this would need to take into
account environmental factors associated with developing new generation in
Iceland’s delicate environment.
These factors mean that the overall project is likely to require a package of new
generation along with the interconnector. This is significantly different from a
typical interconnector, and exposes the project as a whole to a different set of
risks, which means that existing regulatory mechanisms may not provide the
appropriate support.
33
The need for more interconnectors

2.20 Given the uncertainty around the factors which will drive interconnection
benefits, it is difficult to set out a precise future optimal level of
interconnection that Great Britain should target over the long term.
2.21 In a scenario where the future GB electricity system has a significant
proportion of intermittent renewables and other low carbon
generation, combined with larger differences between minimum and
maximum demand (for example due to the electrification of heat), the
opportunities and benefits from interconnection will increase. The ability
of interconnectors to offer services into the ancillary services market,
such as frequency response, would also increase the case for additional
capacity.
2.22 However, in a scenario with a significant share of flexible generation,
consumers more actively managing demand, and low cost access to
storage, the same level of additional interconnection may not provide
value to the economy.
2.23 It is important also to note that not all interconnectors between markets
are the same and it is likely that whilst additional links to some markets will
add significant value, others may not achieve the same benefits. Markets
that have relatively little existing connection to GB, with significantly
different electricity prices and patterns of demand, offer the greatest
potential to reduce costs and improve efficiency through increased
interconnection. The Norwegian electricity market, for example, has
many of these characteristics along with flexible, low carbon, hydropower
stations, which can counter the expected increase in intermittent
generation in GB.
Recommendation 1: Government should pursue additional interconnectors with
other European countries where the benefits are most significant.
Interconnection investment decisions should continue to sit primarily with
the private sector but there is a role for government-led diplomacy to unlock
those markets that can offer potentially large benefits to UK consumers.
The government should therefore focus its efforts on exploring increased
interconnection to markets with abundant sources of flexible low carbon
electricity, such as Norway and Iceland.
34
Storage
Storage allows consumers and suppliers to take energy from the grid or a
generator and store it so that it can be used when it is most needed.
Electricity has historically been difficult and expensive to store. The UK’s
current main source of storage is pumped hydro, for which water is pumped
upwards into reservoirs from where it can be released to generate power.
However, the last decade has seen a great deal of innovation, and there is now
an increasing range of other ways to store energy including chemical batteries,
compressed air and supercapacitors. Much of this innovation has been driven
by consumer electronics and investment in electric vehicles. This has rapidly
reduced costs: for example, the cost of lithium ion batteries has decreased
from more than $3,000/kWh in 1990 to less than $200/kWh today.28
Storage technology is now on the verge of being able to compete with power
stations for some of the services they provide. Crucially, it will not need
subsidy to be attractive to investors, but it does need changes to the existing
electricity market frameworks.
When our electricity markets were designed these technologies did not
exist. The result is a market that is opaque, closed to storage technology, and
regulated in a way that often disadvantages storage providers. This makes it
harder for them to establish a viable business model, as they are unable to
participate across the various electricity markets in the same way as generators.
In this way, barriers to the market are preventing a technology from being
effectively deployed that could increase the resilience of the electricity system,
prevent the need for additional power stations and help secure the power mix
needed to hit our legally binding climate change targets.
The benefits of storage could be substantial. It can help reduce the impact of
peak demand, provide an outlet for power stations at other times of day, and
ease constraints on our grids.
Network owners are only just starting to make use of storage technologies.
There is now enormous potential to make storage technologies an integral
part of our networks. Network owners should be encouraged to see storage as
a central tool to improve the capacity and resilience of their networks as part
of a more actively managed system.
The UK should become a world leader in electricity storage systems. We
can achieve that, not through subsidies, but simply by ensuring that better
regulation creates an equal playing field, to unlock its full potential.
35
2.24 Electricity storage can play a key part in delivering a flexible electricity
system. Traditionally, Great Britain has principally relied upon the ability
to generate more electricity as and when it is needed, with the energy
stored in the form of fossil fuels. To date there has been relatively little
dedicated storage, with the vast majority, about 3,000 MW of capacity,
provided by large scale pumped hydroelectric power stations in North
Wales and Scotland connected to the transmission network.29 These play
a crucial role in the immediate short term management of sudden spikes
in demand and unexpected losses of capacity, but they cannot contribute
to managing more localised patterns of demand. In the future a wide
range of storage technologies deployed at every level from the large
scale through to households could help deliver the flexibility we need. If
costs continue to fall, up to 15,000 MW could be economically deployed
by 2030.30
2.25 Developments in electricity storage have the ability to radically change
the electricity system. A recent report by Energy UK (the largest trade
association for the energy industry) looking at the development of the
sector stated that ‘electricity storage is widely regarded to be the single
most important technological breakthrough likely to happen over the
period to 2030 and a complete ‘game changer’ in the way that the power
system operates’.31
2.26 It is important to recognise that electricity storage is not one single
technology, but a diverse range including batteries, pumped hydropower
and supercapacitors. This allows storage to play more than one role
in increasing the flexibility and robustness of the electricity system,
including:
ll Making the system more resilient to short term imbalances
in demand and supply and allowing the integration of a larger
share of renewables in the generation mix.
ll Enabling network owners to increase the capacity of their
networks more cost effectively than simply building additional
cables.
ll Allowing customers (including households, businesses and
electricity suppliers) to manage their usage more actively,
taking and storing electricity at times of low demand and prices
and then using it at peak times, which both reduces costs and
helps to balance production and demand.
36
2.27 Making effective use of storage will strengthen network capacity and
minimise the need to build new power stations that only operate for a
few hours each day when demand peaks. It can also provide a source of
demand for electricity at times when intermittent generation (e.g. wind
and solar power) is generating but demand would otherwise be low. This
increases the profitability of renewables, reducing their need for subsidy
and their cost to consumers. The variety of technologies available also
means that storage can be deployed at a range of scales and locations
from large scale storage connected to the national transmission network
to small batteries in people’s homes.
Types of energy storage

Pumped Hydropower – this is the most mature of all the storage technologies
and widely deployed around the world. Energy is stored by pumping water
up to a reservoir to be released when needed, generating electricity through
hydro-electric turbines. Relatively large amounts of energy can be stored,
determined by the sized of the reservoirs.
Compressed Air Energy Storage (CAES) – air is compressed and stored under
pressure either in underground caverns or in above ground vessels. The air can
then be released to drive a turbine and generate electricity.
Liquid Air Storage – similar to CAES, air is liquefied and stored in vessels. It can
then be evaporated to drive a turbine and generate electricity.
Solid State Batteries – a range of electrochemical storage solutions. Lithium
ion batteries are one of the key battery technologies, with deployment and
cost reductions having been driven by their use in consumer electronics
and electric vehicles. Sodium sulphur batteries are also being explored for
commercial deployment.
Flow Batteries - batteries where the energy is stored directly in the chemicals
making up the electrolyte solution.
Thermal – principally using heat and cold to store energy as a form of demand
side response. However, various other applications allow electricity to be
generated from stored heat.
Flywheels – energy is stored by rapidly spinning a rotor using an electric
motor. The rotor can then be slowed, with the motor acting as a generator.
Flywheels are starting to be deployed in grid applications, especially as they
can respond to system needs very quickly.
Supercapacitors – these can store relatively large amounts of electricity which
can be released in a short amount of time. Like flywheels, they are able to
respond to the needs of the system very quickly.
37
Supporting the stability of the grid and increased

renewables deployment
2.28 A key role for storage technology will be to provide some of the grid
stability services needed to keep the electricity system resilient to
unexpected events, such as a power station failing. Pumped hydro storage
is already a key provider of this type of service. Batteries and other storage
technologies are also ideally suited to play this role as they can dispatch
power extremely quickly, precisely matching the needs of the system.
Battery technologies are already more effective than using existing power
stations for some of these services, demand for which will grow as the
electricity generation mix develops and an increasing share of generation
comes from intermittent renewables such as wind and solar power.
“Primary frequency response requirement [a type of ancillary service]
could increase by 30-40% in the next 5 years, and by 2030 the response
requirement will be between 3 and 4 times today’s level.”32
2.29 These challenges are already apparent in Ireland, whose Single Electricity
Market is experiencing periods when around 50% of generation comes
from renewables.33 At this point, some renewable generation needs to
be curtailed in order to maintain system stability, as there is a limit to the
extent to which generation from fossil fuel plants can be switched off
without affecting their ability to provide sufficient back-up. To deal with
this, Ireland is starting to develop new ancillary services to bring forward
new technologies, including storage, to maintain system stability with a
lower level of continuing generation from fossil-fuelled plants. One such
technology is the Kilroot battery, described in the box below, which can
provide up to 20MW of flexible power to manage sudden changes in
demand. With solutions like this, Ireland is seeking to achieve the goal of
being able to manage periods where up to 75% of its generation comes
from renewables.34
38
The Kilroot Battery

In January of this year AES UK & Ireland announced the completion of the
first UK transmission scale battery storage facility in the UK. The ‘Kilroot
Advancion® Energy Storage Array’ is based in Carrickfergus in Northern Ireland
and offers 10 MW of interconnected energy storage, equivalent to 20 MW
flexible resource. This storage – which is comprised of over 53,000 batteries –
is able to respond to changes in the grid in less than a second, providing a very
fast response ancillary service to help balance the electricity system at times of
high demand. The array is a fully commercial project, with no additional costs
for consumers.
This 10 MW array represents the first step towards a planned 100 MW energy
storage array at the same location. If completed, this much larger array has
been estimated to provide £8.5m in system savings and the equivalent of
123,000 tonnes of CO2 eliminated per year, by displacing fossil fuel generation
for peaking and balancing requirements, and facilitating fuller integration of
existing renewables.
The potential benefits of this project are being closely monitored by the
System Operator Northern Ireland (SONI). Robin McCormick, General Manager
of SONI explains: “Integrating battery storage solutions onto the system is an
important development which should bring real benefits to customers across
the island. As the transmission system operator, this innovation provides a
significant learning opportunity; we will assess the role that battery storage will
play in the increasingly diverse portfolio of generation sources.”
39
2.30 Whilst Great Britain does not yet have the same share of renewables as
Ireland, some future scenarios have levels of renewables that would result
in similar issues.
2.31 For this reason, National Grid, in its role as System Operator, has taken
some steps to increase the range of technologies able to participate in its
ancillary services market. In particular, it recently tendered for 200 MW
of Enhanced Frequency Response (EFR) capacity – technologies that can
supply power to the network in less than a second – to better balance
the electricity system, on the basis that batteries (and interconnectors)
have the ability to offer these services. This tender received expressions
of interest totaling more than 1.3 GW of capacity from over 65 projects.35
This is clear evidence that there is a strong appetite from storage providers
to deliver system services, although as set out in Part 3 of this report,
changes to the operation of the UK’s distribution networks will be needed
to make the most effective use of these technologies.
2.32 Tendering for new types of ancillary service in this way is helping to
support the deployment of new battery and other technologies. At the
moment, revenues from ancillary service contracts form the central part
of the investment cases for lithium ion battery projects. However, these
tenders remain a marginal element of the overall market, and without
more widespread opportunities to tender and a level playing field, it is
difficult for potential storage investors to develop business cases and
access finance for their projects. The barriers to storage technologies
participating more fully in the ancillary services market are discussed in
paragraphs 2.49-2.51 below.
Mitigating the need for expensive network upgrades

2.33 Another important role storage technologies can play in the electricity
system is to offer a cheaper way of ensuring that our networks, both at
the national and local level, are able to deal with peaks and troughs in the
flow of electricity.
2.34 Like other parts of the electricity system, the transmission and
distribution networks are set up to meet relatively short periods of peak
demand and supply. Capacity constraints have been managed by either
reinforcing the network by building more cables, paying power stations
to prevent them from exporting to the electricity network – known
as ‘constraining off’ – or preventing sources of demand and supply
connecting until the network has been strengthened.
2.35 Building new cables to reinforce the network to meet a level of demand
it might face for just a few hours of the day or year is expensive when
compared to the benefits it delivers. This is why it is often more cost
effective to pay some power stations not to generate for short periods
of time.
40
2.36 Having storage connected to the system means that instead of exporting
power on to the network when it is suffering from constraints, generators
can instead store the power, for example by compressing air, creating
heat or charging batteries. This energy can be released at a later
time when the grid is no longer constrained, avoiding the need to lay
more cables. The same approach can be used for sources of demand;
consumers can store the power they need when there is significant grid
capacity and prices are low, avoiding the need to draw on the network
later in the day.
2.37 The UK’s electricity networks, both at the transmission and distribution
level, vary substantially in terms of their age, design and the types of load
they must accommodate. For this reason, different types and scales of
storage will likely be needed.
2.38 Some network owners have already started to invest in storage (for
example, the Leighton Buzzard battery described in the box below) as
a way to defer or avoid investments and better manage their networks.
Given the nascent state of storage technologies, these investments have
been supported through Ofgem’s Low Carbon Network Fund (LCNF), with
the findings from these investments being shared with other network
owners and the wider industry. But these investments remain small-scale
and few in number. More widespread roll-out will be needed to fully
realise the network benefits of storage technologies, which will require a
number of regulatory and market barriers to be tackled, as set out below.
41
The ‘Big Battery’ in Leighton Buzzard

The UK Power Networks substation in Leighton Buzzard, Bedfordshire, has
been in need of reinforcement over recent years due to capacity constraints.
In other words, local electricity demand has at times been higher than the level
that the substation could supply, for example during periods of cold weather.
To address this UK Power Networks looked to the possibilities of electricity
storage and in 2013 it was awarded £13.2m from Ofgem’s Low Carbon Network
Fund to add to its own £4m funding to push forward the Smarter Network
Storage project (SNS). This scheme features a 6MW/10MWh storage solution
comprising approximately 50,000 lithium ion batteries, which has enabled UK
Power Networks to manage electricity demand at peak times without building
excess capacity. By charging during the day, the Big Battery stores electricity
that can then be dispatched in the evening when residential customers in
Leighton Buzzard need it. During low or average electricity demand times, the
storage capacity of the Big Battery is enough to power about 1,100 UK homes
for a whole day or over 27,000 homes for one hour.
UK Power Networks is now using SNS to explore ways to maximise the value
from storage by offering multiple benefits to both network operators and
the wider UK electricity system. It is the first storage solution of its kind to be
commissioned in the UK and the first large scale battery to support National
Grid. To date SNS has offered over 2,900 hours of transmission network
services and has exported electricity to the distribution network at periods of
high demand on more than 120 occasions.
Suleman Alli, Strategy, Safety and Services Director at UKPN said “Our ‘Big
Battery’ in Leighton Buzzard is the first grid-scale storage of its kind, providing
clarity to DNOs and the industry of the real opportunities of this technology as
well as identifying the barriers preventing its wider uptake.”
42
Managing power usage to deal with periods of peak supply and demand
2.39 The third role energy storage can play in increasing flexibility is by
providing a source of electricity supply at times of peak demand and a
source of demand when otherwise surplus electricity is being generated.
In this way it is similar to both interconnectors and demand flexibility.
Owners of storage technologies can arbitrage between periods of low
prices and high prices – buying power when prices are low and storing it,
so that it can be sold at a competitive price when the costs of generated
capacity are higher – as a means of creating revenues and cutting costs
for consumers through greater price competition for power to meet
periods of peak demand.
2.40 Like other forms of flexibility, this enables storage technology to reduce
the need to build conventional power stations that only operate to meet
short periods of peak demand, which will also save consumers money
through lower capital expenditure.
2.41 The greatest investment case for electricity storage being used in this
way lies where it can charge and then discharge electricity over relatively
short periods of time. This approach means that the storage capacity
needed remains relatively small, reducing the capital cost of investment,
and that revenues can be generated over a large number of charging/
discharging cycles, meaning that the price difference between charging
and discharging can also be smaller. Analysis by Imperial College indicates
that electricity storage over longer durations adds little additional
commercial value.36
2.42 There is also increasing potential for storage to be deployed in people’s
homes, especially as part of a smart household network. There are a
number of providers of domestic scale storage, from companies such as
Tesla and Moixa. DECC are currently supporting a demonstration project
deploying domestic scale storage in around 250 sites to evaluate the
role it can play in reducing peak demand, and how through aggregation,
small scale storage can offer services to the network. At the moment
deployment of storage at this scale makes most sense where it is linked
to onsite power generation such as rooftop solar panels, making sure
a household is able to use a larger share of the electricity it generates
and reducing bills. As costs of storage fall and with the roll-out of smart
meters and time of use tariffs it is likely that storage at the household level
will become increasingly attractive.
2.43 In a future scenario with a significant share of the generation mix coming
from intermittent sources, there will be increasing opportunities for
storage to balance relatively short term differences in demand and
supply. However, while effective deployment of storage technologies
can significantly reduce the need for generating capacity to meet peak
demand, it is not the case, particularly in the near term, that storage will
eliminate the need for flexible forms of electricity generation (including
gas fired plants) entirely. In particular, it will be necessary to ensure that
there is sufficient capacity to provide security of supply when there is little
wind or sunshine for a prolonged period. Analysis by the Energy Research
43
Partnership suggests that ‘neither storage nor demand side management

seem to be credible solutions to the security of supply issue caused by
lulls in renewable output lasting 2-3 weeks’.37 Managing a long period of
insufficient generation through storage could require each household to
have around 300 kWh of storage, equivalent to approximately 15 electric
vehicles, which is unlikely to be a deliverable or cost-effective solution.38
Regulatory barriers to deployment of storage

2.44 As set out above, storage has the ability to offer valuable services to the
electricity system. The increasing value of these services as our electricity
system evolves combined with the falling costs of storage technologies
mean that there is not a case for driving deployment through subsidies.
However, a theme of many of the Commission’s Call for Evidence
responses was that resolving a number of regulatory barriers is the key
factor in allowing storage to be deployed to its full potential.
2.45 The current electricity market regulations do not recognise storage
as a distinct activity, but instead treat it as a form of generation and
consumption. This approach ignores the other benefits that storage
can play in the electricity system and creates barriers to investment in
storage assets. For example, it increases costs for storage asset owners by
requiring storage to be charged twice for using the electricity network –
once as a generator when exporting electricity and again as a consumer
when electricity is being taken from the network to be stored. Whilst
storage technologies are clearly making use of the network both as a
consumer and producer, charging in this way takes no account of the fact
that storage assets are likely to be exporting power at times of peak load,
and drawing power at times of peak generation, reducing the stresses
faced by the network rather than increasing them.
2.46 Storage assets also face ‘double charging’ for the various government
levies that are added to electricity costs, such as the Contract for
Difference and Feed-in tariff schemes. These taxes are placed on the
electricity used to charge-up the store and again to consumers when the
electricity is exported. A better approach would be to charge these levies
on the basis of the electricity actually used, reflecting that no storage
technology is 100% efficient, rather than on both inflows and outflows.
Not only would this be a fairer treatment, creating a level playing field with
other technologies, but it would also incentivise more efficient storage
technologies.
2.47 Storage’s definition as a generation asset also makes it difficult for network
owners, who have the best information where storage could provide
value, to deploy it effectively. This is due to strict ‘unbundling’ regulations
designed to allow equal access to networks. Whilst the Commission accepts
that network owners should not be the owners of large storage assets,
the regulations and associated contractual arrangements need to allow
network owners to buy services from storage assets where appropriate.
44
Barriers to developing an investment case for storage

2.48 The complicated nature of storage, which could play a number of
different roles in the electricity system and get revenues from each,
means that it can be difficult for storage providers to develop a business
case which relies on the stacking of these revenues.
2.49 Contracts to provide ancillary services underpin much of the current
pipeline of storage projects. The nature of these contracts – in particular
the fact that it is necessarily uncertain when a service might be called
upon – presents challenges for storage owners in accessing the sources
of revenue that would support their investments. In contrast, generators
are able to provide ancillary services as a secondary element of their
business model, with the primary source of revenues being the longer
term and more secure contracts offered through the wholesale market.
2.50 This reflects the fact that the ancillary services market was designed when
there was a limited need for flexibility, which could easily be delivered
by large generators as a small additional service rather than as the core
rationale for investment. As a result, many flexibility services (such as fast
reserve)ii are procured through bilateral contracts between the System
Operator and major generating companies with little transparency about
prices or potential revenues. Without this information it is difficult for
new developers to determine whether an investment in storage, or other
emerging technologies such as demand flexibility, to deliver ancillary
services would be worthwhile.
2.51 Increased tendering for ancillary services by the System Operator, with
price information set out in market reports, has helped to make the market
clearer for participants. Work has also started to make service contracts
more open, allowing a single storage asset to target revenues across a
number of roles (e.g. offering both network improvements and ancillary
services). This work, accompanied by a number of pilots, has enabled
progress to be made in developing business models and contracts that
address some of these issues, but broader changes to the ancillary services
market will be needed to enable more widespread and efficient deployment
of these technologies and to allow storage investors to optimise where their
assets are best used at each point in time. Because the need for flexibility
will increase significantly in future, identifying and implementing those
broader changes must be considered a priority.
Recommendation 2: The UK should become a world leader in electricity storage
systems. Two steps are required:
a) DECC and Ofgem should review the regulatory and legal status of storage
to remove outdated barriers and to enable storage to compete fairly with
generation across the various interlinked electricity markets. The reforms
should be proposed by Spring 2017 and implemented as soon as possible
thereafter.
Fast reserve provides the rapid and reliable delivery of power through an increased output from generation or a reduction
ii
in consumption from demand sources, allowing the system operator to manage the frequency on the grid – for example in
the event of a power station failing, providers of fast reserve must be available with 2 minutes of being called upon and able
to deliver power for 15 minutes.
45
b) Network owners should be incentivised by Ofgem to use storage (and other

sources of flexibility) to improve the capacity and resilience of their networks
as part of a more actively managed system.
Demand flexibility
Demand flexibility can allow families and businesses to change how they use electricity.
Deploying automated systems to reduce consumption at times of high demand and high prices
and increase it at times of low demand, will allow consumers to save money and cut emissions
without inconvenience.
In addition, demand flexibility can support the integration of low carbon generation. Flexibility in
how we consume energy lowers the need for flexibility in supply, supporting the integration of
inflexible low carbon generation such as wind, solar or nuclear.
Demand flexibility is commonplace in other countries, such as Australia and the US, and new
technologies in this area are advancing. But it is currently underused in the UK.
Some of the best British businesses are already making use of flexible power, but there is
potential for much wider take up. With the roll out of smart meters in every home in the 2020s,
the domestic market for flexible demand could be significant. However, without tackling
regulatory and cultural barriers, it is unlikely that the full benefits offered by demand flexibility
will be achieved.
There is an opportunity here for UK firms. We are a world leader in the data analytics and
software development that can be used to manage energy demand seamlessly: showing what
can be achieved will enable these capabilities to be marketed to the world.
46
2.52 Demand flexibility is more commonly referred to as “demand side

response”. It covers a broad range of activities that can be undertaken
to reduce or shift demand for electricity during peak periods, including
adjusting the consumption of electrical appliances or other facilities or
deploying off-grid sources of power.
2.53 These measures may only have a small impact at the individual level, but
when aggregated together the effects can be significant. Providers of
flexible power can use automated systems and data analytics to achieve
this aggregation and deliver a significant reduction in demand on the
distribution or transmission networks, as an alternative to increasing
supply. This marks a significant break with the UK’s historical approach
which treats demand purely as something to be forecast and met, rather
than controlled.
2.54 Definitions of demand flexibility vary. Some include purpose-built
generation on the distribution network, as this can be used to manage
demand on the transmission network. Other definitions restrict it to the
The effects of demand flexibility on the typical UK demand profile
60
Demand peak
Demand
shifting
50
40
(GW)
Valley filling
30
20
10
0
night morning evening night
47
use of assets that which not originally built to help manage the system
but can still play a role. This could include a backup generator built for a
factory, but not a generator built for the primary purpose of supplying the
grid. This report uses the latter definition.iii In all cases, the definition also
includes tools and incentives to reduce or reschedule energy usage by
consumers at times of peak demand.
2.55 By consuming electricity more flexibly, the overall demands on the system
are reduced. If some of the electricity used at peak times can be shifted to
other parts of the day, then less generation capacity needs to be built. If
the System Operator can procure capacity and services from the demand
side, rather than from generators, then it can integrate more low carbon
power on to the system cost effectively.39
2.56 Demand flexibility saves businesses and households money by reducing
the investment needed in generation and network capacity, which is
ultimately paid for by consumers. It also creates the opportunity to save
money through purchasing the cheaper electricity at off-peak times. The
commercial sector already benefits from these savings, and they will soon
become available to domestic customers with the roll out of smart meters
and smart tariffs (which vary by time of day).iv
If 5%
The system would
be £200 million a
year cheaper to run It would be
equivalent to
of current peak the generation
demand was met of a new nuclear
by demand side power station40
solutions Consumers
could benefit by
£790 million
iii
Therefore for our purposes, new diesel farms being built under the capacity market should not be classed as demand-side
response.
iv
Domestic users can already benefit to some degree through the use of Economy 7 tariffs, but smart meters will allow much
more sophisticated pricing mechanisms to be developed, increasing the scope for cost savings.
48
2.57 The range of activities included under the umbrella

of demand flexibility is comparable to the range of The USA has led the
storage technologies that exist. Flexible demand can be way on deploying
used to balance electricity demand and supply over a deploying demand
range of timescales, from very short term grid stability flexibility, where in
requirements to managing longer periods of peak some of its regional
usage. It can also help network operators to manage markets it can meet
local constraints. Suppliers can use flexible power to
manage their own portfolios and help control costs for
up to 15%
their customers.41 of peak demand
2.58 The USA has led the way on deploying demand
flexibility, where in some of its regional markets
it can meet up to 15% of peak demand (the average
is 6%).42 The most cited example is the Pennsylvania,
Massachusetts and New Jersey electricity market, where
market arrangements have evolved over time to allow
different demand side solutions to be rewarded for the
services they can provide. This has led to a reduction
of the average wholesale price of between 5-8% and a
much larger reduction of peak wholesale prices.43
2.59 However, full scale demand flexibility is still in
development in the UK.44
49
So far we have only scratched

the surface in terms of using
available assets. This must be
expanded, eventually giving the
demand side an equal footing
to the supply side. Otherwise
the best options will not be
selected, nor the best solutions
implemented. Costs certainly
will not be minimised, especially
in the longer term
– Dunelm Energy
50
2.60 It is difficult to estimate what level of demand flexibility exists in the

UK, but it is thought to be significantly less than 1% of peak demand.45
A recent Government-commissioned study concluded that there is
significant additional demand side potential in many areas.46 The sources
of this are set out below.
Where does the potential for demand flexibility come from? 47
Industrial and commercial consumers – This refers to use of pre-existing

back up generation emergency back up generators to switch
on and reduce the amount of power
required from the national grid.
Industrial and commercial consumers Industrial and commercial customers
-demand-led can reduce or shift their demand
(for example power consumed for
heat, refrigeration, ventilation and air
conditioning).
Domestic demand-led Domestic customers may be able to shift
or reduce their demand (for example,
altering the time at which storage
heaters are charged, or postponing the
charging of electric vehicles).
Smart grid technologies Electrical energy storage and voltage
control systems are being investigated
by network owners for network
management purposes, and can also
have wider flexible applications.
2.61 Great Britain was one of the first countries in Europe to open up several
of its markets to demand flexibility and the System Operator, National
Grid, already procures a limited number of services from demand side
providers, who are either large industrial consumers, or third party
‘aggregators’. The latter coordinate groups of end users who are able
individually to offer only small amounts of demand flexibility, combining
these into more substantial reductions in demand which they can sell to
the system operator or local networks. Aggregators cover the risk of not
delivering this flexibility and therefore provide security to both buyers
and consumers.
51
Saving Time money

Time Inc. is a leading publisher of print and digital magazine content, creating
content for multiple platforms. Since 2010, they have participated in Demand
Side Response (DSR) by reducing energy consumption in their London
headquarters.
Time Inc. UK, working closely with Kiwi Power as their aggregator, identified
chillers and air handling units as the appropriate non-essential assets for
taking part in DSR. It allowed the building management system at a push of a
single button to turn off two chillers completely and turn down the two heat
pumps in the timeframe required by National Grid to reduce the load on the
electricity system. The designed system and operation was tested to achieve
the optimum energy saving with minimal disruption to staff. As part of the
new installation to ensure more accurate monitoring and quicker response, a
minute by minute meter is used to get real time readings which feed back into
National Grid.
As a result of participating in DSR as well as other green initiatives, Time Inc.
achieved over 10% energy saving between 2011 and 2013. Tony Floyde, the
Facility Manager of Time Inc. UK said: “We consider our energy efficiency and
integration into the National Grid’s Short Term Operating Reserve programme
with Kiwi Power to be very successful.”
52
2.62 While this represents a positive step forward, National

Grid has nonetheless acknowledged the need for
‘greater access to services from the demand side’ 48 and
has stated its intention to increase its use of demand
flexibility substantially by 2030.49 In support of this,
it launched a well-received campaign in 2015 called
“Power Responsive” which seeks to enable businesses,
suppliers and policy makers to shape the growth of
demand flexibility collaboratively.
“The launch of National Grid’s Power Responsive
campaign in 2015 was a positive step.” 50
2.63 Other stakeholders have also recognised the
considerable benefits that harnessing more flexibility
on the demand side could bring.
“We see a very large potential for demand response
to provide cost-effective balancing services to the The amount of flexible
network enabled by new technologies such as sensor demand in the GB
and communications developments, digital trading system has actually
and aggregation platforms, new power electronics reduced since 2013
and more local engagement in balancing distributed
generation to enable energy resilience.” 51
2.64 However, many practical barriers to participation for
providers of demand flexibility remain meaning its
potential is not being realised. In fact, the amount of
flexible demand in the system has actually reduced
since 2013.52 The following paragraphs set out the
most important and well-understood barriers to
participation.
Ancillary services provision

2.65 As explained in the discussion of storage technologies,
many of the products that National Grid has historically
procured to keep the system stable (ancillary services)
were designed around what generators could offer.
This has led to unintentional features in the design and
specification of these products, which prevents demand
flexibility from providing them. Barriers identified in our
call for evidence include:
ll large minimum bids
ll requirements for fixed quantities of flexibility
to be available for long periods
53
ll activations that are too frequent or have unnecessarily long

maximum durations
ll requirements for symmetric bids
ll quantities fixed a long way ahead of real time
ll prohibitively expensive telemetry requirements
2.66 In recognition of this, new products such as “demand turn-up” are being
trialled to provide National Grid with more demand side options to call
upon. However, rather than create more products in an already complex
setup, a more fundamental redesign of the products that National Grid
procures may be a better long term option.
“over the longer term there will be a need for National Grid to look at
its suite of balancing services in the round and ensure they are simple,
customer-led, and focussed on securing least cost services, whether
from generation, demand response or storage.” 53
The role of aggregators in the balancing market

2.67 Aggregators are unable to access the UK’s electricity markets on equal
terms with generators. In the balancing market, there is no defined
role for third parties, which makes it difficult for them to participate.
Energy UK’s response to the Commission’s Call for Evidence set out the
consequences of this.
“Most demand side response does not currently have access to the
Balancing Market. When a customer reduces demand at a time of system
stress, it is their supplier that benefits, so only that supplier is motivated to
buy this flexibility from the customer. This precludes the involvement of
independent aggregators, who are responsible for the majority of demand
side participation in the capacity market and in ancillary services.”54
2.68 To address this, we recommend Ofgem reviews the Balancing and
Settlement Code to ensure market arrangements for aggregators
promote efficiency and the interests of consumers. This should allow for
more demand side solutions to come forward.
Demand flexibility in the capacity market

2.69 Another potential source of revenue for demand flexibility (and storage)
is the capacity market. This was created to make sure the UK has enough
reliable sources of electricity in the wholesale and balancing markets
at periods of peak demand, as there would not otherwise be a strong
commercial case for building generating capacity that is only used very
sparingly. For this reason, all participants are given a steady payment,
54
even when they are not generating power, in return for

capacity being available when needed.55
“The capacity market has been established to fit
conventional providers of support rather than
considering all potential providers.” 56
2.70 Less than 1% of the capacity procured in the most recent
capacity market auction was load-shifting demand
response, which represents only £8 million of the £942
million that will be paid out in 2019.57 Whilst a low number, Less than 1% of the
this represents a doubling of the amount of demand capacity procured
flexibility successful in the first auction – this growth in the most recent
may continue, reflecting the experience in some other capacity market
capacity markets where flexible demand participation has auction was load-
grown over time from initially low levels. It is highly likely, shifting demand
that demand flexibility could contribute at low cost to
response
enabling peak demand to be met, even if the scale of its
contribution would be driven by the market.
2.71 As the capacity market evolves, the clear goal must be
ensure that demand flexibility participates fully in the
main capacity market, with a move away from transitional
arrangements; ensuring that capacity is procured on a
level playing field. This particularly applies to demand
shifting, not just demand flexibility delivered through
back-up generators. The Commission also sees a case for
sharper allocation of the costs of the capacity market to
incentivise consumers to reduce demand at peak times.
Given the recent creation of the market, we suggest that
the right moment to pick up these issues is in the 2019
review of the need for a capacity market.
2.72 It is clearly difficult to determine what represents a
level playing field for the diverse technologies that can
participate in the capacity market, and the different
characteristics they have. However, respondents to the
Commission’s Call for Evidence stated that some of the
rules are unnecessarily complex and do not take into
account how technologies which are not generation
are operated.
“Issues include unnecessary complexity and cost in
metering arrangements, requirements for excessively
frequent tests, lack of flexibility in portfolio formation,
and no provision for portfolio maintenance.” 58
55
2.73 DECC should consider whether any administration of this regime, such
as the rules around testing and the makeup of portfolios of capacity,
unintentionally precludes the participation of demand flexibility and
storage and need to adapt without delay.
Encouraging industrial and commercial consumers

to participate
2.74 Demand flexibility can provide real value to firms and households
without impacting on how they run their businesses or live their lives.
For larger consumers in the UK, many of the necessary enablers for them
to provide flexibility are already in place.v The Commission believes that
more companies can reap the benefits of consuming cheaper electricity
at off-peak times, with no reduction in output or detriment to their
operating models.
2.75 Although demand from the industrial and commercial sectors represents
more than half of total demand at peak times, wider cultural barriers are at
play which prevent the large scale use of demand flexibility to save money
amongst these users.59 Ofgem’s own research concludes that ‘many,
including commercial customers, are prevented from participating more
fully because they are unclear about the monetary benefits of providing
flexibility, as well as of the programmes available to them’.60
2.76 In addition, for each company the decision to provide demand flexibility
competes with other options and investments for management attention.
“Energy costs make up less than five per cent of overheads for three
quarters of companies; something more than price is needed to bring
energy to the attention of those business leaders.” 61
2.77 The Government’s immediate focus should therefore be to encourage
these consumers to make the most of this opportunity.
Demand flexibility at a domestic level

2.78 Once smart meters are installed in homes across the UK, households will be
able to save money by moving their demand to off-peak times. In order for
these consumers to directly engage with and benefit from demand flexibility,
Ofgem needs to ensure that the regulatory framework incentivises suppliers
to offer ‘smart tariffs’, so that the prices people pay can reflect the cost of
providing electricity over time (eg on a half-hourly basis).
“For demand side management to occur on a larger-scale the connection
between wholesale power prices and consumers’ power prices needs to
be made.” 62
v
These enablers include: meters capable of recording and submitting half-hourly consumption data, 24 half hourly
settlement with the associated supplier and central IT systems, and ToU network charges.
56
2.79 Once the necessary infrastructure is in place, domestic users will be able
to manage their demand for electricity in response to price signals. They
may either do this themselves or use automated systems, for example to
ensure their appliances operate at the most cost-effective times of day.
It is of utmost importance that consumers are supported in this transition,
to make sure they understand how to benefit from these changes.
2.80 This will create a further set of opportunities for network operators, the
scale of which would increase again as new technologies such as electric
vehicles or domestic storage are rolled out.
“As demand response technology and energy storage become easier
to implement and aggregate into the domestic market, large portfolio
owners (such as Housing Associations) will be able to be offer demand
aggregation at scale to the Grid, providing a new set of partners the
National Grid can work with to shave peak demand.” 63
Learning and pilots

2.81 There is a significant role for pilots demonstrating how demand flexibility
can work in practice in the UK. This is because the UK has a unique set of
regulations and consumers, which limits what we can learn from other
countries in terms of areas such as behaviour change.64 The Government
Estate offers an opportunity to pilot measures to manage demand flexibly
and to implement them on a large scale where they can be shown to deliver
significant benefits.
57
Demand flexibility in Axion

Axion Polymers operates one of the most advanced material recovery and
plastics recycling facilities in Europe; specialising in taking waste plastics –
including from end of life cars and waste electronic equipment – and turning
into high quality 100% recycled plastics. These new plastics can then be sold onto
customers for a whole range of uses such as construction products, industrial
packaging and components for use in new cars.
As part of its operations in the UK, Axion operate two plants, the first of which
is at Trafford Park (Greater Manchester) and processes large volumes of non-
metallic residues to extract a plastic concentrate. This concentrate is transferred
to their advanced polymer refinery at Salford which includes state-of-the-art
sorting equipment and compounding machinery. Both sites are well suited for
Demand Side Response (DSR) because the high power-using sections of the
plant can be stopped quickly if required.
Axion, in partnership with aggregator EnerNoc, currently participates in
National Grid’s Demand Side Balancing Reserve (DSBR), where companies bid
for contracts to receive payments for reducing their electricity usage at times
of peak demand. Axion participates by closing down both of its plants, quickly
taking demand off the system. Not only does this help National Grid manage
the system efficiently but it is also helpful in a commercial sense to Axion who
use the DSBR stoppages to do planned maintenance and then make up any
lost production in other periods. Indeed when National Grid issued a Notice of
insufficient margin (NISM) last November, Axion were able to quickly respond
and help ease pressure on system by reducing overall demand.
Roger Morton, Director at Axion, said “At Axion we are able to close down a
number of processes in our plants for a short period without disruption to
our business. Production may be lost in the short term, but we can increase
processing at other times and are compensated by National Grid.”
On the wider topic of Demand Side Response he said “We have been able to
integrate demand reduction response into our operations easily due to our
current metering arrangements. DSR reflects positively on the company’s
environmental image and I’d recommend other businesses with high electricity
demand to adopt it”.
58
2.82 There is also an opportunity here for UK firms. We are a world leader in
the data analytics and software development that can be used to manage
energy demand seamlessly: showing what can be achieved will enable
these capabilities to be marketed to the world.
Recommendation 3: The UK should make full use of demand flexibility by improving
regulation, informing the public of its benefits and piloting business models.
a) Ofgem should start an immediate review of the regulations and commercial
arrangements surrounding demand flexibility with a focus on making
participation easier and clarifying the role of aggregators; this should be
complete by Spring 2017.
b) DECC should make future changes to the capacity market to reduce the costs
and barriers to entry for demand flexibility.
c) DECC, Ofgem and National Grid ensure that large users and opinion formers
are aware of the money saving opportunities that demand flexibility can offer
and encourage more industrial and commercial consumers to take part.
d) Pilots focusing on business models which make demand flexibility easy
and attractive to consumers should be established and fully evaluated.
Government should demonstrate best practice by investigating the scope for
demand flexibility on its estate.
59
PART THREE: MAXIMISING

THE BENEFITS OF A MORE
FLEXIBLE MARKET
60
3 MAXIMISING THE BENEFITS OF A MORE

FLEXIBLE MARKET
3.1 The UK requires a national System Operator able to keep up with an
increasingly complex system, more active management of our local
networks, and a strategic approach to upgrading our networks.
A smarter system operator
Creating an Independent System Operator

3.2 The system operator plays a critical role in ensuring that Great Britain has
secure electricity supplies and that demand can be met on a second by
second basis. To date the UK’s system operator has been very successful in
delivering this. Going forwards, the system operator’s place at the centre of
the electricity system means that it will have a vital role to play in ensuring
that the transition from large fossil fuel power stations to an increasing
complex mix of smaller, more diverse, intermittent generation happens as
smoothly as possible.
3.3 National Grid, a privately owned company, is the current system operator
for the British electricity system. Alongside its system operator role, it
owns the electricity transmission network in England and Wales and has
interests in the development of interconnectors between Britain and other
countries. Following the changes to the electricity market put in place by
the Government’s recent Electricity Market Reform (EMR) programme
it also has a role in advising the government on security of supply and
running the auctions for both the capacity market and the allocation of
Contracts for Difference (CfD). A system operator that also owns parts of
the transmission network can allow synergies in the running of the system,
for example understanding where the most beneficial upgrades to the
network can be made. Its in depth knowledge of the electricity system
and its role in ensuring electricity supplies are balanced also makes it well
placed to advise on longer term security of supply.
3.4 However, the fact that National Grid is a private company and has
interests across the electricity market, mean that there is the potential
for perceived conflicts of interest. For example, National Grid both runs
the capacity market process and bids in to receive capacity market
payments for the interconnectors it owns. The Commission has found no
evidence that National Grid has acted in any way that has led to a conflict;
however, as the functions the system operator needs to carry out are
likely to increase as the electricity system evolves, the scope for perceived
conflicts for interest may also increase.
“We consider National Grid to be a high quality and responsible
company. It is doing a robust job in managing the grid nevertheless
intermittent renewables are making balancing and managing the grid
more challenging.” 65
61
3.5 Potential conflicts of interest within the system operator were set out by
many of the respondents to the Commission’s call for evidence.
“We consider that recent policy changes have created increasingly
deep conflicts of interest around the role of National Grid as the System
Operator.” 66
“While we do not see evidence that potential conflicts of interest is
occurring in practice … this perception could affect investor, political or
consumer confidence in the UK market.” 67
3.6 On balance, there appears to be merit in increasing the independence
of the system operator to guard against the risks of conflicts of interest
and to help it to address the challenges the electricity system will face.
However, it is not clear whether an entirely independent system operator
(ISO) is the right model to adopt to solve these issues. Whilst a truly
independent system operator, particularly if set up as a not-for-profit
organisation, would not face actual or perceived conflicts of interest there
are trade-offs, including the increased difficulty in setting its incentives.
3.7 Many of the benefits around mitigating conflicts of interest could be
achieved through further separation of the system operator function
within National Grid without a wholesale move to an ISO – a step from
which there would be no going back.
3.8 Importantly, the challenges in correctly designing the framework within
which an independent system operator would work and the changes
needed to the wider electricity system to make this move are sizable.
There is a risk that that a focus on this would distract from delivering
other the important changes that are needed to the system, for example
encouraging more active management of the local distribution network.
3.9 Given the case for greater system operator independence. DECC and
Ofgem should continue to examine how they minimise any perceived
conflicts of interest. However, it is the Commission’s view that the move
to an entirely independent system operator should not be a priority.
Instead, the existing system operator should work to ensure that the
electricity system is able to deliver the flexibility that is needed, for
example through closer coordination with the local distribution networks
and making changes to how they procure services to stabilise the system.
“there are more important elements of the policy infrastructure that
need to be amended. In terms of creating the level playing field an ISO
should be developed as a final stage.” 68
3.10 It is important for the system operator to be more independent, and
National Grid should work to achieve this. The strength of the case for
an entirely independent system operator is likely to change over time,
depending on how the electricity system evolves. Government should
therefore keep this area under review.
62
The future of system operation

3.11 As the system evolves, with more and smaller power stations that are less
flexible, increased deployment of storage, greater interconnection, and
increased usage of demand flexibility, operating the transmission network
will become significantly more complex. The system operator should be
encouraged to invest in the necessary digital infrastructure and capability
to optimise the system.
3.12 As a starting point, the System Operator is working with the distribution
networks to improve its visibility of what is connected at different levels of
the system. Increasing information sharing and strengthening interactions
between the transmission system operator and other network companies
will mean the whole system can be controlled in a more coordinated way,
which is a key enabler for significant cost savings. The move towards more
active management of the distribution networks described later in this
chapter will also help facilitate this process.
3.13 In addition, evidence from recent research projects shows that investing
in more digital infrastructure can enable system operators to reduce the
amount of redundant physical assets which are currently used to ensure
security of supply. Smart corrective-control measures can be used to
achieve the same result, which can lead to efficiency gains and lowered
costs.69 The System Operator should be incentivised to make these
investments where they may be expected to support long term cost
savings for consumers.
The increasing need for ancillary services

3.14 The market for ancillary services is set to grow, as the number and volume
of services required by the System Operator to manage the transmission
system increases, particularly with high levels of intermittent renewable
generation. National Grid’s System Operability Framework sets out
predicted future system requirements under the various future energy
scenarios.
3.15 As set out in Part 2, National Grid are running a campaign called Power
Responsive to encourage more demand side participation and are
reviewing and making changes to services. They are also starting to design
new products, such as Enhanced Frequency Response, so that the system
can benefit from the full range of technologies that are now at its disposal.
3.16 However, for many of the services they procure there is not a level playing
field between generators and other service providers. For example, the
grid code mandates transmission-connected generators to be available
to provide certain services to the network, but allows them flexibility over
what they charge. Those who are able to provide these services but are
not mandated to do so – such as storage providers - can tender for them,
but are then are locked into making themselves available under the terms
that the System Operator specifies.
63
”The requirement for flexibility is growing. We strongly believe that this

provides an opportunity to reset the market framework for ancillary
services such that it treats all sources of flexibility; demand side response,
storage or generation equally…the use of greater standardisation of the
products and procuring this via regular open auctions, as some other
markets have adopted, would provide fairer access for all” 70
3.17 The Commission believes that more needs to be done to remove barriers
which prevent all potential sources of flexibility competing to provide
ancillary services on equal terms. This means that Ofgem and National
Grid should consider:
ll Providing greater visibility of the tendering pipeline, both to
other network companies and potential bidders.
ll Tendering for multiple services at the same time rather than
on an ad hoc basis. Allowing people to bid at the same time for
multiple services will mean businesses are more able to make
tradeoffs between providing different services.
ll Developing mechanisms to specify and value what the system
fundamentally needs. There are some things which generators
provide which they are currently not compensated for (e.g.
inertia). In addition, the design of some services – while
delivering value to the electricity system – have been set
around what generators could historically offer. Specifying
services in this way is a barrier to innovation, as it makes it
difficult to compare different solutions to the same need (for
example, enhanced frequency response and inertia).
ll Using this to design a simplified set of products which all
technologies can compete for on an equal basis and which
enable the costs of different options to be readily and
transparently compared. Grid code requirements may need
revisiting and bilateral contracting should be brought to an end
wherever possible.
3.18 Given the Commission’s recommendation to clarify the role of
aggregators in the balancing market, the interaction between ancillary
services and the balancing market should also be reconsidered and
clarified.
3.19 Alongside consideration of these changes, Ofgem and the System Operator
should also be encouraged to look at international examples of ancillary
services markets. Some countries (for example New Zealand) procure
ancillary services dynamically through a half-hourly spot market. This allows
the System Operator to only buy the services they need at any given point
in time and service providers to choose whether to make themselves
available or make money in other parts of the electricity markets. A
market of this kind would also provide cost-reflective signals for emerging
technologies, such as storage, making them easier to invest in.
64
New Zealand Ancillary Services – Transpower’s ‘Reserve

Management Tool
Just like in the UK, New Zealand has to ensure the electricity system remains stable with supply and
demand constantly balanced (in New Zealand this means keeping the grid frequency at 50 Hertz).
Both countries procure ancillary services, aimed at securing the stability of the electricity system in
the case of sudden imbalance event, such as a large power plant or the Hgoing offline. However,
the way New Zealand procures its ancillary services is different.
Simply put, Reserve Management Tool (RMT) continually identifies the biggest risk to the system
staying in balance for each 30 minute trading period (usually equivalent to the largest generator
going offline) and then ensures an optimised amount of reserve products are in place should there
be a sudden system change. These products are broadly either additional generation (such as a
power station) which can be quickly brought online or interruptible load, where large power users
(such as industry) have agreed to quickly turn off to reduce demand.
These products are then grouped into Fast Instantaneous Reserve (FIR) and Sustained
Instantaneous Reserves (SIR):
FIR – on the instantaneous loss of generation, reserve in this category must respond within 6
seconds to arrest frequency fall but FIR is only required to last 60 seconds.
SIR – this needs to be able to respond within 1 minute and last for 15 minutes to replace the FIR and
the lost generation. Generation is then redistributed to account to release the SIR within the 15
minutes and return of interruptible load then follows.
One key advantage of RMT that is often cited is that it enables the system operator to continually
analyse what is needed to cover the biggest risk and to procure an optimum level of reserve for the
forthcoming trading periods. Another positive aspect of the reserve management framework is
that it uses a transparent and simplified procurement framework, where providers are able to bid
in FIRs or SIRs right up until the gate closure – meaning the costs are more reflective of the system
requirements at that time.
65
Recommendation 4: The System Operator must create new markets that will allow
open competition for the services it procures and ensure it keeps pace with the
network it oversees.
a) The creation of an entirely independent System Operator should not be
treated as an immediate priority but should be kept under review in light of
progress towards strengthening National Grid’s independence.
b) Ofgem should consider how it encourages the System Operator to develop
new markets to provide ancillary services which allow new technologies to
participate more easily. The long term goal must be for a more strategic and
transparent approach to the procurement of ancillary services and more cost-
reflective charging.
More active management of our local networks

“…is it enough to have a Transmission System Operator, or do we also
need to develop Distribution System Operators?” 71
3.20 As set out in part two, storage and demand flexibility can be put to use for
a variety of purposes at different levels of the system, including both local
distribution networks and the national transmission network, enabling
supply and demand to be more effectively balanced and avoiding or
delaying costly upgrades.
3.21 While these benefits may be felt across the system, with the exception
of a small number of larger scale storage facilities and large industrial
consumers, the connection and deployment of these technologies will
generally take place at the distribution network level.
3.22 This presents significant challenges for the management and operation
of the distribution networks. Currently the owners of the fourteen British
distribution networks are required to ensure that their networks operate
safely, efficiently and have sufficient capacity to supply the peak demand
required by their customers.
3.23 When electricity flowed almost entirely in one direction through the
distribution networks – from the connection to the transmission network
(which in turn was supplied by large power stations) to the consumer,
this was largely unproblematic. More recently, however, the pattern
of generation in the UK has become more distributed, meaning more
sources of power, particularly small renewables such as solar power and
onshore wind, are being connected at the distribution level. As a result
electricity is increasingly flowing in both directions through distribution
networks, making their management and operation more complex.
These changes mean that there is significant potential to reduce costs
and improve efficiency by deploying technologies such as storage and
demand flexibility.
66
3.24 Increasingly, technologies connected to the distribution network will

need to be called upon to help manage the transmission network. This
will require greater coordination than at present. One example of how
problems could occur in future is National Grid’s Enhanced Frequency
Response scheme, which was launched in September 2015.
3.25 National Grid invited bids for capacity which could be used within very
short timescales to manage unexpected fluctuations in supply. The scheme
attracted a large number of bids for new storage facilities which would
need to be connected to the distribution network, resulting in some
distribution network owners having to manage applications to connect
more than 2000MW of storage.72 In assessing these proposals, National
Grid will seek to select the lowest cost bids from a transmission system
operator perspective. However, whilst the location of the storage makes
little difference to the benefits at the level of the transmission network, the
implications for the distribution networks are much more complex. In a
useful location, storage could potentially be put to use to help manage local
constraints, delivering valuable benefits, but if located in the wrong place,
it could place increased reinforcement costs on the distribution networks.73
The distribution networks, however, have limited opportunity to influence
National Grid and storage developers’ decision making.
“Distribution Network Owners have very limited means to give the
locational signals needed to encourage energy storage developers to
design their systems to support them. The same issue exists with other
technologies in the area of Demand Response.” 74
3.26 With the volume of connection requests for renewables, storage and new
buildings, rising fast, distribution network owners have started to respond
to this challenge. Through the Low Carbon Network Fund, set up and
funded by Ofgem over the period 2009 – 2015, over sixty new trials and
partnership projects were undertaken by network owners. Between them,
they should enable around £900m of savings to consumers in the period to
2023 and have enabled much of the technical learning required to enable
network owners to make use of new technologies and services.75
“Whilst frameworks are in place to provide sufficient technical
governance to meet the above challenges, changes to the energy
market to facilitate active management of the network at distribution
level will deliver benefits to customers in terms of security of supply,
improved efficiency and costs.” 76
3.27 A distribution network owner whose primary role is ensure there are
enough assets to transport electricity to consumers no longer looks
sufficient to get the best out of our increasingly complex distribution
networks. This is why the need to create “distribution system operators”
was one of the core themes running through the responses to our call
for evidence. These bodies would be tasked with actively managing the
activity on their networks, rather than simply ensuring there is adequate
physical capacity for electricity to get to where it needs to go.
67
“Distribution Network Owners need to be empowered to be part of

setting up a decentralised energy network… This is the issue most
frequently cited as severely holding back the modernisation of the UK
power system” 77
What are the benefits of creating distribution system operators?

3.28 There are several possible ways local distribution networks could be more
actively managed. For example, this could be through an increased role
for the transmission system operator, network owners evolving into local
system operators or the creation of new organisations to manage local
networks independently. It is unclear which of these approaches (or any
other) is the best solution. The Commission expects DECC and Ofgem to
consider the relative benefits of different models as part of their work to
enable the transition to more actively managed local networks. We have
used the term “distribution system operator (DSO)” to represent all of
these options.
3.29 An active distribution system operator could be given responsibility for
balancing the system at a local level in real time. There are three key
benefits which could stem from this arrangement.
ll First, a DSO with a clear idea of what the local network needs
at each moment in time will be able to purchase or procure
these services to manage its system, creating revenue streams
and market signals to suppliers. It is currently difficult to put
together a commercial business case for local level storage and
demand flexibility measures, as their benefits are diffused across
different parts of the system. This change will also incentivise
the development of new and innovative business models, and
save money for consumers by reducing or deferring the need
for costly physical enhancements to the grid.
“A distribution system operator would undertake the conventional role
of a distribution network owner but would also make full use of smart
techniques to create value for the wider electricity system” 78
ll Second, better visibility of the network, combined with more
monitoring, control and smart technologies means that
network operators will be able to adapt to more complex
and unpredictable electricity flows. This means that more
distributed and intermittent generation will be able to connect
to the networks at a lower overall cost to the system.
“Increasing diversity of local generation and consumption patterns
suggests local balancing could more efficiently optimise supply and
demand within regions and could complement/run in parallel to national
balancing.” 79
68
ll Third, it will enable better coordination between the

transmission and distribution networks. A set of DSOs
could have a role in ensuring the effective management
of the interface with the transmission network and a
coordinated system-wide approach. They could work with the
transmission system operator to ensure that the benefits of
new technologies such as storage and demand flexibility are
maximised across the system as a whole, helping to coordinate
what deploys when to ensure no detriment to local services.
DSOs could operate local balancing markets, linked to the
national balancing markets run by the SO.
“…it is essential that the national and local electricity systems are
aligned and coordinated. With more electricity being generated at the
distribution level there is a risk of making the balancing of the national
system more challenging. It will be important for the transmission system
operator and distribution system operators, who manage these systems,
to coordinate their work.” 80
3.30 Enabling businesses to provide services to both the national and local
networks would mean that they could be rewarded across the entire
electricity value chain, making it easier for them to create viable business
cases.
“distributed energy resources should be able to sell their services where
it is the most profitable for them (e.g. balancing, system services,
valuation in the energy market, congestion management, contracts with
DSOs or TSOs as an alternative to grid reinforcement, etc.)” 81
The “Sunshine” Tariff

Managing local generation and balancing more actively has the potential to reduce pressures
on networks at times of peak demand, and to enable more renewable electricity generation to
be connected. A project taking place in Cornwall is looking to do just that by shifting demand to
times when solar power is generating.
South West Renewable Energy Agency (Regen SW) is working with Western Power, Wadebridge
Renewable Energy Network and Tempus Energy to trial a new ‘Sunshine Tariff’ in Wadebridge.
The project’s particular aim is to resolve network capacity issues in the local area which is
currently prohibiting the further deployment of renewable technologies.
The ‘Sunshine Tariff’ incentivises customers to use electricity between 10am and 4pm in the
summer months by offering cheaper prices during these times. If the trial is successful in
demonstrating that demand can be reliably and consistently shifted to times when solar panels
are generating, it could open the door for new renewables projects to connect to the network
where previously it would have been considered at capacity.
69
3.31 In the longer term, as new technologies such as electric vehicles start to
be deployed at scale, they will provide a new source of electricity storage,
linked into the distribution system through domestic connections.
Vehicles can be charged overnight and during periods of low demand, but
often remain connected to the network at other times of the day as well.
DSOs could ensure that as they connect to the network, they are able
to play a role from the beginning in helping to support the system. The
technology to do this already exists.
“The integration of energy balancing mechanisms with electric vehicles
is a cornerstone of the future of the electric system.” 82
3.32 For all these reasons, the Commission believes that the establishment of
distribution system operators should be treated as a priority by Ofgem
and DECC. As set out above, some steps have already been taken in the
right direction, such as the establishment of the Low Carbon Network
Fund, but progress has been slow. DECC and Ofgem need to grasp this
issue and ensure that progress is accelerated.
“It will be essential in the very near future that Distribution Network
Operators transition to Distribution System Operators with a function for
not just maintaining and managing the wires in their network, but also
managing and balancing the energy flows.” 83
Recommendation 5: Enabling the transition to more actively managed local
networks should be a government priority. By Spring 2017 DECC and Ofgem should
consult and set out how and under what timeframe this transition should best
take place.
3.33 As part of this transition process, DECC and Ofgem will need to
determine whether the distribution system operator should be the same
organisation as the distribution network owner. Whilst it is logical to see
how network owners could continue the process of evolution to become
system operators, this may not be the best end result.
3.34 DECC and Ofgem will also need to reach a view on whether DSOs and
network owners should be allowed to own and operate storage on their
networks, or whether they should only be allowed to procure it. It is
the Commission’s view that network owners should not be the owners
of large storage assets, but regulations and the associated contractual
arrangements need to allow network owners to buy services from storage
assets where appropriate.
A strategic approach to upgrading our networks

3.35 Ofgem have recently started to incentivise greater innovation and new
ways of delivering resilient electricity networks. The implementation of
the new RIIO price control framework (Revenue=Incentives+ Innovation+
Outputs (RIIO)) is an excellent first step. This has introduced longer price
70
control periods for network owners, a specific innovation stimulus and

a different approach to the treatment of costs, which should encourage
companies to pursue the optimal approach (whether capital investment
or an alternative solution) to deliver the requirement outputs.
3.36 But as the potential for new technologies increases more must be done.
Ofgem needs to ensure that network companies are making the most
of opportunities to implement technological solutions which can save
consumers money by delaying or reducing the need for expensive
upgrades and grid reinforcements. As these tend to be less capital-
intensive than traditional solutions, deploying them enables companies to
react quickly to unfolding uncertainty whilst deferring the need for bigger
long term investments. Ofgem needs to ensure that future planning
frameworks enable and incentivise the adoption of these solutions where
appropriate in order to fully capture the diverse benefits that smart
technologies can bring.
3.37 In many instances, a more strategic approach to upgrading our networks
could deliver large savings to future consumers, or bring wider economic
and social benefits to a local community. When planning ahead for
the future, it often makes sense to exploit economies of scale. Once
reinforcement to a network is required, there can be significant benefits
to oversizing the new capacity that is installed, either to cope with future
demand or to manage losses efficiently.84 The additional costs of a
larger cable are small compared the other costs involved in upgrading a
network, for example digging up a road; the cost savings from not having
to do further reinforcement a number of years later can be large.
3.38 It is important that investment decisions take account of the long term
benefits for consumers of oversizing as well as the immediate costs of
upgrading to a higher specification. While oversizing parts of the network
on the basis of uncertain forecasts of the future need clearly comes at the
risk of stranded assets, and hence consumers paying for something that is
unused,vi in many cases this risk will be outweighed by the potential long
term cost benefits of building in flexibility at an early stage.
3.39 Ofgem has already developed specific frameworks for the transmission
level to provide for strategic investment. There is also a need to consider
the approach for distribution networks. This will require new approaches
to managing and allocating risks and benefits. Network companies (and
by extension consumers) may not always be well placed to manage these
risks, or able to capture the full benefits, of oversizing for specific parts
of the network. For example, in the case of connection requests for
developments, such as new homes or offices, where there is uncertainty
This risk is particularly acute in relation to cables, as these tend to be designed for their location and not easily reused
vi
elsewhere, but even in this case the potential benefits will often justify oversizing.
71
over the long term level of capacity needed, the upside of oversizing to
enable future growth is gained by the developer or the wider community,
but the risks are not, which creates a disincentive to the network owner to
follow this approach.
3.40 To address this issue, it may be appropriate for other parties, such as
local authorities, to manage the risk of creating a stranded asset where
oversizing is intended to support a wider development objective.
Network companies should ensure they work closely with third parties,
such as developers and local authorities, to help facilitate these type of
arrangements.
Recommendation 6: Where upgrades to our networks are needed Ofgem should
continue its work in encouraging network companies to make long term strategic
decisions. Whilst this does increase the risk of stranded assets, the Commission
believes that if there is a potential net gain to future consumers then this approach
may be justified. If network owners are not best placed to manage this risk, they
should work with third parties to help facilitate these investments.
72
GLOSSARY
73
National Infrastructure Commission report | UK energy
GLOSSARY
Aggregators Organisations offering services to aggregate energy
demand or production from different sources to act as
one entity in providing services to the grid
Ancillary services The ancillary services market is how the System Operator
market procures a number of products to help it manage the
electricity system in case of unexpected shocks, such as
the failure of a power system.
Balancing and This is the governance arrangements for electricity
Settlement Code balancing and settlement in Great Britain. It relates to
how generators and suppliers act to ensure the electricity
system remains balanced and the action for when
imbalances take place.
Biomass A renewable fuel of organic material, such as wood,
plants or other waste. Biomass can be burned directly or
processed into biofuels such as ethanol and methane
Cap and floor regime The regulated mechanism to determine the returns for
developers of interconnector projects once they are
in operation.
Capacity The maximum power available from the power sector or a
power station at any point in time.
Capacity Market In the capacity market (CM) the government determines
what level of system security is required for four years
ahead and then commissions National Grid (in its role as
System Operator) to calculate the amount of capacity
that would deliver this. National Grid then runs an auction
to procure this capacity at the lowest price.
Carbon Price Support A carbon price support is a tax on fossil fuels used to
(CPS) generate electricity.
CO2 Carbon dioxide.
Compressed Air Energy Air is compressed and stored under pressure either in
Storage (CAES) underground caverns or in above ground vessels. The
air can then be expanded released to drive a turbine and
generate electricity.
Consumers People, organisations and businesses who consume
energy.
Contract for Difference A subsidy mechanism to support low carbon energy
(CfD) deployment. The Contract for Difference sets a price
per unit of electricity produced by the low carbon
technology.
74
Day ahead market Market for buying and selling electricity for delivery on the
day after trading takes place. Part of the wholesale market.
DECC Department of Energy and Climate Change.
Demand flexibility Definitions of “demand flexibility” or “demand side
response” vary. Some include purpose-built generation
on the distribution network, as this can be used to
manage demand on the transmission network. Other
definitions restrict it to the use of assets that which were
not originally built to help manage the system but can still
play a role. This could include a backup generator built
for a factory, but not a generator built for the primary
purpose of supplying the grid. This report uses the latter
definition. In all cases, the definition also includes tools
and incentives to reduce or reschedule energy usage by
consumers at times of peak demand.
Demand side response See ‘Demand flexibility’
Distribution network The lower voltage, local, electricity network which is used
to deliver electricity to most customers.
Distribution network Privately owned companies who own the distribution
owners network.
Distribution Network Charges to distribution network customers to recover
Use of System (DNUoS) the cost of installing and maintaining Great Britain’s
distribution system.
Electricity demand The amount of electricity being demanded at a point
in time.
Electricity generation The amount of electricity being generated at a point
in time.
Electricity grid The collective name for the transmission and distribution
networks.
Electricity Market A set of government reforms to the electricity
Reform (EMR) market introducing contracts for difference and the
capacity market.
Electricity supply The amount of electricity being supplied at a point
in time.
Embedded generation Power stations which are connected to the distribution
network rather than the transmission network.
Enhanced Frequency Technologies that can supply power to the network in
Response (EFR) capacity less than a second – to better balance the electricity
system.
75
Feed-in-Tariff (FiTs) FiTs is a Government scheme which subsidises the

deployment of small scale renewables.
Flexible generation Generation which can provide faster stability services
whilst operating at lower loads than current power
stations, leaving more room on the system for lower
carbon sources of electricity.
Flow batteries Batteries where the energy is stored directly in the
chemicals making up the electrolyte solution.
Flywheels Energy is stored by rapidly spinning a rotor using an
electric motor. The rotor can then be slowed, with the
motor acting as a generator. Flywheels are starting to
be deployed in grid applications, especially as they can
respond to system needs very quickly.
Fossil fuels Natural gas, coal and fuels from crude oil.
Generators Generators own power stations, or other sources of
power such as renewables, which they use to generate
electricity.
Gigawatt (GW) Unit of electrical power equal to 109 watts.
Independent System A model of the electricity market where the system
Operator operator is independent from any other organisation.
Interconnection Interconnection is the physical linking of electricity
transmission systems across borders to allow the cross-
border trading of electricity.
Liquid Air Storage Air is liquefied and stored in vessels, it can then be
evaporated to drive a turbine and generate electricity.
Load-shifting Shifting of electricity demand to another time in the day.
Megawatt (MW) Unit used to measure capacity of power generator.
1 MW = 1,000 kilowatts.
National Grid A British multinational electricity and gas utility company
whose operations include owning transmission network
assets, part of the national gas grid and acting as
System Operator.
Ofgem The regulator for gas and electricity markets.
Operating reserve The generating capacity available to the System Operator
within a short interval of time to meet demand in case
other generation is not available, demand changes
unexpectedly or there is another disruption to the supply.
76
Peak demand Denotes the maximum power requirement of a system at

a given time, or the amount of power required to supply
customers at times when need is greatest.
Peak load See ‘Peak demand’
Power purchase A contract between a generator and a licensed electricity
agreements (PPAs) supplier for the sale of the output of the generator for
the contract duration at a price that is defined in the
contract.
Power station A facility for the generation of electricity.
Pumped storage Energy is stored by pumping water up to a reservoir to
be released when needed, generating electricity through
hydro-electric turbines.
Renewable electricity Renewable electricity includes biomass, solar power,
wind, wave, tidal, and hydroelectricity.
Retail market Where consumers are able to choose their supplier of
electricity from competing retailers.
Revenue=Incentives+ Ofgem’s framework for setting price controls for network
Innovation+ Outputs companies.
(RIIO)
Smart meters Automated digital gas and electricity meters.
Smart technologies Appliances and technology where the energy use can be
automatically controlled – often remotely.
Storage The ability to store electrical power for use at a later time.
Suppliers Suppliers buy electricity from either the wholesale market
or directly from generators and then sell this to firms and
households (the retail market).
System Operator The System Operator (SO) is responsible for ensuring
the electricity system remains balanced within each half
hour period. The SO ensures that imbalances in supply
and demand are addressed on a second by second basis,
within the constraints of the network. National Grid is the
System Operator for the GB electricity system.
The balancing market The balancing market operates from ‘Gate Closure,’ one
hour ahead of the agreed delivery time of the electricity,
through to real time. It exists to ensure that supply and
demand can be continuously matched or balanced in real
time.
77
Transmission Network Charges to transmission network customers to recover

Use of System (TNUoS) the cost of installing and maintaining Great Britain’s
transmission system.
Transmission Network The high voltage electricity network, used to move
electricity long distances across the country.
Transmission Network Transmission network owners own the high voltage
Owners electricity transmission network.
TWh An energy measure (usually electricity) equivalent to
1,000,000 MWh or 1,000 GWh. One GWh of electricity
would meet the hourly energy needs of over 600,000
UK households.
Wholesale market Great Britain has a liberalised electricity wholesale market
where prices are not set by a regulator. The wholesale
market is made up of bilateral contracts and trading over
exchanges.
78
THE NATIONAL
INFRASTRUCTURE
COMMISSION
Chair
Lord Andrew Adonis
Lord Andrew Adonis was appointed as chairman of the National
Infrastructure Commission on 5 October 2015. He was a member
of the independent Armitt Commission, which recommended
an independent National Infrastructure Commission in 2013.
Andrew Adonis was formerly the Transport Secretary from 2009
to 2010, Minister of State for Transport from 2008 to 2009 and
Minister for Schools from 2005 to 2008. He was Head of the
No10 Policy Unit from 2001 to 2005.
Commissioners
Sir John Armitt
Sir John Armitt is Chairman of the National Express Group and
City & Guilds, Deputy Chairman of the Berkeley Group and a
member of the Board of Transport for London, Senior Vice
President of the Institution of Civil Engineers and a Fellow of the
Royal Academy of Engineering, the Institution of Civil Engineers
and City & Guilds of London Institute. He has received honorary
doctorates from the universities of Portsmouth, Birmingham,
Reading and Warwick and was awarded the CBE in 1996 for his
contribution to the rail industry and a knighthood in 2012 for
services to engineering and construction.
In September 2013 the Armitt Review, his independent review of
long term infrastructure planning in the UK, was published. The
review is now Labour Party policy.
Tim Besley
Tim Besley is School Professor of Economics and Political Science
and W. Arthur Lewis Professor of Development Economics at
the LSE. He was a co-chair of the LSE growth commission and
a member of the IFS’s Mirrlees Review panel, and is currently
Chair of the Council of Management of the National Institute of
Economic and Social Research.
79
Demis Hassabis
Demis Hassabis was the co-founder and CEO of DeepMind,
a neuroscience-inspired AI company, bought by Google in
Jan 2014. He is now Vice President of Engineering at Google
DeepMind and leads Google’s general AI efforts.
The Rt Hon Lord Michael Heseltine CH
The Rt Hon the Lord Heseltine CH was a Member of Parliament
from 1966 to 2001. He was a Cabinet Minister in various
departments from 1979 to 1986 and 1990 to 1997 and Deputy
Prime Minister from 1995 to 1997. He is founder and Chairman
of the Haymarket Group, and most recently was appointed
by the government as an advisor to the Secretary of State for
Communities and Local Growth.
Sadie Morgan
Sadie Morgan BA (HONS), MA (RCA), FRSA is a co-founding
director at the award-winning practice, dRMM Architects. She
became the youngest and only third ever-female President of
the Architectural Association in 2013. In March 2015, Sadie was
appointed as Design Chair for High Speed Two (HS2) reporting
directly to the Secretary of State.
Bridget Rosewell
Bridget Rosewell OBE, MA, MPhil, FICE is a UK economist, with a
track record in advising public and private sector clients on key
strategic issues. She is a founder and Senior Adviser of Volterra
Partner and a non-executive director of Network Rail and of
Ulster Bank. She was Chief Economic Adviser to the Greater
London Authority from 2002 to 2012. She has been a member
of several Commissions looking at the future of public services,
cities, infrastructure and local finance.
Sir Paul Ruddock
Sir Paul Ruddock is Chair of Oxford University Endowment
Management and Chair of the Oxford University Investment
Committee. Sir Paul was a co-founder of Lansdowne Partners in
1998 and CEO of Lansdowne Partners Limited from 1998 to 2013
when he retired. From May 2007 to October 2015 he was Chair
the Board of Trustees of the Victoria & Albert Museum as well
as Chairman of the Gilbert Trust for the Arts. He is a Trustee of
the Metropolitan Museum of Art, New York and a Fellow of the
Society of Antiquaries.
80
REFERENCES 40 Power Responsive, Demand Side Response could transform our energy
system, http://www.powerresponsive.com/viewpoints/demand-side-
response-could-transform-our-energy-system/ (Accessed February 2016)
1 National Grid, Future Energy Scenarios, 2015 41 Frontier Economics, LCP, Sustainability First, Future potential for DSR
2 DECC analysis based on National Grid’s 2015 Future Energy Scenarios in GB, 2015
3 Committee on Climate Change, The Fifth Carbon Budget, 2015 42 Federal Energy Regulatory Commission, Demand Response &
4 DECC, Electricity Generation Costs, 2013 Advanced Metering; Staff Report, 2015
5 DECC, Digest of UK Energy Statistics, 2015 43 University of Exeter, Lessons from America: Capacity market details and
6 Ofgem, Electricity Security of Supply, 2015 demand side response,http://projects.exeter.ac.uk/igov/lessons-from-
7 Imperial College London and Energy Policy Research Group (University america-capacity-market-details-and-demand-side-response/ (Accessed
of Cambridge), Delivering Future-Proof Energy Infrastructure, 2016 February 2016)
8 Data obtained from National Grid 44 Smart Grid Forum, Smart Grid Vision and Routemap, 2014
9 Imperial College London and Energy Policy Research Group (University 45 DECC analysis
of Cambridge), Delivering Future-Proof Energy Infrastructure, 2016 46 Frontier Economics, LCP, and Sustainability First, Future potential for
10 Ibid DSR in GB, 2015
11 Data obtained from National Grid 47 Ibid
12 Imperial College London and Energy Policy Research Group (University 48 National Grid, System Operability Framework 2015, 2015
of Cambridge), Delivering Future-Proof Energy Infrastructure, 2016 49 Utility Week, News ; National Grid to rely mostly on demand-side
13 Ibid balancing by 2030,http://utilityweek.co.uk/news/national-grid-
14 National Audit Office, Electricity Balancing Services, May 2014 to-rely-mostly-on-demand-side-balancing-by-2030/1143182?utm_
source=newsletter&utm_medium=email&utm_content=topnews&utm_
15 Imperial College London and Energy Policy Research Group (University
campaign=Daily#.Vs8F-vmLTq7 (Accessed February 2016)
of Cambridge), Delivering Future-Proof Energy Infrastructure, 2016
50 National Infrastructure Commission, Call for Evidence; Response from
16 Ibid
Association for Decentralised Energy
17 Ibid
18 Poyry, Costs and Benefits of GB Interconnection, 2016 Innovate UK
19 Ibid 52 Smart Energy Demand Coalition, Mapping Demand Response in
20 NEMO LINK, NEMO LINK announces €500m contracts to build the first Europe Today, 2015
interconnector between GB and Belgium, www.nemo-link.com/latest- 53 National Infrastructure Commission, Call for Evidence; Response from
news (Accessed February 2016) Association for Decentralised Energy
21 North Sea Link, News; €1.5 billion contracts awarded to build 54 National Infrastructure Commission, Call for Evidence; Response from
the world’s longest interconnector, http://nsninterconnector.com/ Energy UK
blog/2015/07/14/e1-5-billion-contracts-awarded-to-build-the-worlds-
55 DECC, Implementing Electricity Market Reform, 2014
longest-interconnector/ (Accessed February 2016)
22 Ofgem, Electricity Interconnectors factsheet, 2014
NRG Management Consultancy
57 Sandbag, UK Capacity Market Results, 2015
Energy UK
24 National Grid, Getting more Connected, 2014
Enernoc
25 Poyry, Costs and Benefits of GB Interconnection, 2016
59 Ofgem, Making the electricity system more flexible and delivering the
26 Imperial College London and Energy Policy Research Group (University benefits for consumers, 2015
60 Ibid
27 Icelandic National Energy Agency, Data Repository; Electricity
61 EEF, The low-carbon economy – moving from stick to carrot, 2015
Production for 2014, http://www.nea.is/the-national-energy-authority/
energy-data/data-repository/ (Accessed February 2016) 62 National Infrastructure Commission, Call for Evidence; Response from
Enappsys
28 Poyry, Costs and Benefits of GB Interconnection, 2016
29 DECC, Digest of United Kingdom Energy Statistics, 2015
Core Cities Low Carbon Energy and Resilience Policy Hub
64 Smart Grid Forum, Smart Grid Vision and Routemap, 2014
31 Energy UK, Pathways for the GB Electricity Sector to 2030, 2016
Solar Trade Association
Energy UK
Scottish Power
33 Newbery D., Remunerating flexibility: a case study of the Single
Electricity Market of the Island of Ireland – from SEM to I-SEM and DS3,
Citizens Advice
2015
34 Ibid
KiWi Power
35 Energy Storage Update, UK’s 200 MW grid storage tender flooded by
battery bid interest, http://analysis.energystorageupdate.com/uks-200-
mw-grid-storage-tender-flooded-battery-bid-interest (Accessed February
2016) 70 National Infrastructure Commission, Call for Evidence; Response from
EON
of Cambridge), Delivering Future-Proof Energy Infrastructure, 2016 71 National Infrastructure Commission, Call for Evidence; Response from
Citizens Advice
37 The Energy Research Partnership, Managing flexibility whilst
decarbonising the GB electricity system, 2015 72 National Infrastructure Commission, Call for Evidence; Response from
Electricity Storage Network
38 Ibid
Electricity North West
81

Power Systems Group at Newcastle University
75 Citizens Advice, Where next for the smart energy consumer?, 2015
Electricity Networks Association
Institution of Civil Engineers
UK Power Networks
iBUILD Infrastructure Research Centre
Centrica
81 Ibid
Nissan
Electricity Storage Network
82
86

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SMART POWER

National Infrastructure Commission report | Smart Power

We all share an interest in better decision making, clearer

The National Infrastructure Commission seeks to provide clear thinking, dispassionate

Electricity generation is undergoing fundamental change. Many existing fossil fuel

Smart Power: In brief 4

SMART POWER: IN BRIEF

PART 1: ALL CHANGE

PART 2: SMART POWER

PART 3: MAXIMISING THE BENEFITS OF A MORE FLEXIBLE MARKET

SMART POWER AT A GLANCE

Our system must be modernised and The system must be balanced on a

TRADITIONAL POWER SYSTEM

Power Station Power Transformer Transmission substation

FUTURE POWER SYSTEM

Power Station Power Transformer Transmission substation

PART ONE: ALL CHANGE

PART TWO: SMART POWER

Interconnection is the physical linking of electricity markets across borders

A better connected network

Huge technological advances, tremendous potential,

Crucially, storage technology will not need subsidies

The result is that barriers to the market are hindering

Wind farms were paid

Demand flexibility covers a broad range of activities that can be undertaken to

Heading towards a more flexible future

PART THREE: MAXIMISING THE BENEFITS

A smarter system operator

b) Ofgem should consider how it encourages the System Operator to develop

More active management of our local networks

A strategic approach to upgrading our networks

PART 1: ALL CHANGE

4.4 6.0 11.3

Consumer Power 2030/31 Nuclear

Key participants in the GB electricity market

The age of the dominance of industrial fossil fuel power stations is

But the underlying needs of an electricity system remain constant

The transition to low carbon generation presents challenges for

New generation is often smaller and dispersed

We must maintain security of supply

needs to be enough generation capacity to ensure this peak can be met

Great Britain electricity demand on a typical week day8

Demand for electricity is likely to change

Possible future daily demand scenario with sub-optimal power system10

The network needs to be resilient to unexpected events

1.23 As we switch to a more intermittent and less flexible low carbon

Different parts of the GB electricity market

The long term challenge this represents is immense, but it also

1.27 If we get this right, we have the opportunity to significantly reduce

The technologies are becoming available to allow us to meet these

Analysis carried out for the Commission suggests

£2.9bn and £8.1bn

What can provide flexibility?

1.30 In all scenarios, increasing the flexibility of the system is a low-regrets

PART TWO: A SMART

2 A SMART POWER REVOLUTION

2.3 Interconnection is the physical linking of electricity transmission systems

The technical characteristics of interconnectors

2.9 There is a consensus that there has historically been

Existing interconnectors and the future pipeline

East-West Viking Link

Regulatory approval FAB Link

2.11 The Commission’s evidence suggests that this pipeline of interconnectors